PREFACE

Loans have to be paid back one day. Had this been realized by all, how nice life would have been on this Planet. It would not have prompted the poet to say Neither be a Lender, nor a Borrower Be. Alas! Given the realities in life, this could remain at best a wishful thinking. So their business is to lend and lend more. Their proficiency; skill; competency are all tested in how much they lend and how much they RECOVER and how quickly. Suffice it would be to state that this can be likened to the vigour and strength with which one goes about after fully recovering from any ailment. It is agreed by al beyond doubt Recovery is essential and get recovery is very essential. We know right form the appraisal stage up to the actual repayment stage the banks need to be careful. We also know that once the money is in the hands of a borrower, attitudinal changes take place. The borrower, with some few exceptions may be, feels a bit more complacent as after all it is not this own money which is at stake. Therefore an attempt is made here to put all that we know already proper perspective.

ACKNOWLEDGEMENT
At outset, we would like to thank the institutions for having provided us with an opportunity to carry out a project of this magnitude that helped me satisfy my curiosity as far as my area of interest was concerned. The essence of this project, i.e. its contents have been compiled with help of varied sources of secondary database, but we would specially like to acknowledge the support, suggestions and feedback received from my Project Guide- Mrs. Sonu Gupta and that of the other faculty members as well. A lot of other people have also contributed directly and indirectly to completion of this project would not have seen light of the day. Our hearts felt gratitude to all of them.

Nishtha Parikh Hema Bisht Ashok Chauhan

Introduction
The banking industry has been a backbone for the economic growth of the country. Though the technological revolution was yet to hit the banking industry till late eighties it created lot of new jobs. The sudden explosion in the business volume brought pressure on the quality of output. This environment sowed the seeds of what is now known as NPAs. Unchecked proliferation of banking, lack of matching technology and growth of adequate human resources severely affected the quality of credit appraisal, supervision and debt recovery. The emphasis is on recovery. The however, is that the existing loopholes in the legal system encourage the borrowers to take undue advantage of them. Even the setting up of executive recovery boards has fail to contain the NPAs. Of course, the suffest ed way to check further NPAs is to prevent their occurs. This calls for efficient management of the recovery of the NPAs. This will eventually lead to reducing the NPAs.This study is basically to identify the Debt recovery problems and how they are managed for efficient recovery considering the present scenario.

EXECUTIVE SUMMARY
The most important problem that the Indian banks are facing is the problem of their NPAs. It is only since a couple of years that this particular aspect has been given so much importance. The banks have to overcome these difficulties properly in order to effectively counter the competition faced by the foreign banks. With the framing of laws as per international standards and setting up of Debt recovery tribunal we can say that steps have been taken in this direction. Banks in India have traditionally been saddled with very high Non-Performing Assets. The banking sector was heading for a crisis in 2001 with NPAs crossing a mammoth 64000 crores. Banks burdened with huge NPAs faced uphill tasks in recovering then due to archaic laws and procedures. Realizing the gravity of the situation the government was quick to implement the recommendations of the Narsimham Committee and Andhuarjuna Committee leading to the enactment of the SRESI ACT 2002.( Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act). This Act gave the banks the much needed teeth to curb the menace of NPAs. The non performing assets (NPAs) of banks have at last begun shrinking. As reported from surveys, it is understood that there has been substantial improvements in non performing assets and this has been because of several measures such as formation of asset reconstruction companies, debt restructuring norms, securitization, provisioning norms and prudential norms for income recognition. The gross NPAs of the banking system are about 16 per cent of the total assets of the nationalized banks as of 2000-01. This is against a global norm of about 5%. Hence there is a long way to go before we can say that the NPAs of our banks are under control. The improvements in NPAs of individual nationalized banks have been in the order of 10% to 20%, thanks to the various schemes and measures introduced. This paper addresses the results we have achieved so far since the measures have been implemented and the thrust on measures that need to be taken to expedite recovery

of NPAs. We also give our suggestions as to how NPA retrieval can be made easy and in what way the NPA scenario is headed. The problem is no doubt about recovery management where the objective is to findout about the reasons behind NPAs and to create networks for recovery. Banks of Ahmedabad and Gandhinagar have been considered where 21 executive have been approached with a structured question to elicit information. The crucial factor that decides the performance of banks now a days is the spotting of non-performing assets (NPA). NPAs are those loans given by a bank or financial institution where the borrower defaults or delays interest or principal payments banks are now required to recognize such loans faster and then classify them as problem assts. As far as the study is concerned the following may be summarized. Nearly 10% of the banks in Gujarat responded within a month for loan applications received by them from their corporate clients. If was also found that 67 % of the banks used to appraise loan proposals from their corporate clients with the viewpoint of recovery. In Gujarat region it was found that about 62 % of the banker opined that there was a need to evaluate the loan applications critically. The respondents assigned highest weight to companys current performance and the second highest was assigned to companys past performance. Around 10 % of the banks in Gujarat Recovered their dues on time from their Corporate clients after maturity in Gujarat. The most preferred measures were pervasion and legal action. The most common suggestion received for improving the recovery system in Gujarat was regarding improving the judicial system and delegating more power and autonomy to the banks.

LIMITATIONS
Due to time and cost constraints the geographical scope of the study is limited to the banks situated in Ahmedabad and Gandhinagar. The sample size consists of 20 banks therefore, perfect generalizations to a lager population regarding the survey results may not sound proper. The statistical tools applied while analysis suffers from inherent demerits. Due to the unwillingness of some of the private sector banks and all the foreign banks to share the information the sample is not equally distributed among all the stratas.

CHAPTER ONE INDIAN BANKING INDUSTRY

1.1 INTRODUCTION :
Banking can be described as the business of running an establishment where money is deposited in accounts, withdrawn and borrowed also by the customers. Banks perform their function of attracting deposits and providing credit. However banks today function for customer satisfaction rather than being just a mere intermediary.

1.2 EVOLUTION :
IN THE OLDEN DAYS Roots of banking system in India dates back to over 2000 years. Manu is his Manu Smriti devoted a section to Deposits and Advances and prescribes the rules pertaining to interest rates to be charged and paid. Kautilyas Arthashatra also bears testimony to the existence and working of a banking system in India. The Moghul Period Indigenous bankers played vital role-lending money, financing of foreign trade and commerce. People who performed banking functions were known as Sheths/Shah/Shroff/Chettiars, etc. according to the regions they represented. Besides money lending they were also instrumental in transfer of funds from place to place and performed collections business through Hundis ( a commonly accepted mode of funds transfer for commercial transactions vogue even today in a modified form relevant to the modern system of banking. The British Period : Western style of banking began in the 18th Century year 1770 First Joint Stock Bank-Bank of Hindustan started in Calcutta. Later East India Company also established three banks-Bank of Bengal (1809), Bank of Bombay (1840), and Bank

Of Madras (1843). In 1921, Imperial Bank of India was established to hold government balances and manage public debt. Various prominent banks like Punjab National Bank, The Bank of India, The Canara Bank an The Bank Of Baroda were opened during this period. The Post Independence Period (from 1947-1969) : Post independence scenario in the banking sector saw that Class Banking was being followed wherein main stream banking was being controlled by few industrialists mostly serving the narrow interests of the industries to which they were connected and catering to the needs of a certain class of customers. A liberal credit policy was not followed in lending to the priority and neglected sectors, including Agriculture and Small-scale industry. Thus, a need was felt to literally overhaul the Indian Banking System to serve the needs of the economically weaker sections of the society across the length and breadth of the country. It had become very much necessary that Mass Banking replace Class Banking. Thus path breaking measures, like, passing of the Banking Laws (Amendment) Act in 1968, nationalization of 14 major commercial banks in 1969, etc., were taken to achieve the desired social and economic objectives. Development in the Banking Sector in the Post Nationalization Times, (1969-1999 : Phase 2)

The post nationalization period has witnessed a phenomenal growth in branch

expansion of public sector banks from 8262 branches in 1969 to more than 45000 branches (inclusive of 14000 regional Rural Bank Branches). During the three decades the Business Mix of the PSBs also rose in geometrical progression. Aggregate Deposits, which were Rs. 4,623/- crores in 1969 increased to more than Rs. 5,00,000/- crores in 1999 and total credit rose from Rs. 3825/- crores to more than Rs. 2,00,000/- crores during the same period. Consequently, employment potential in the banking sector itself increased in leaps and bounds, giving rise to the commonly held view that there was over recruitment of staff and excessive

operating expenses consuming most of the revenue thereby eroding the profits/net worth of the Banks. Recent introduction of Voluntary Retirement Schemes by almost all the PSBs proves this point. Post Reforms, Period In 1991 the Indian economy was facing a grave crisis in all fronts-Forex reserves touched an abysmal low, increased deficit in the oil pool account and a severe resource crunch had a strangle hold on the economy. It was at this juncture that a new parliament under the stewardship of Shri P.V. Narasimha Rao decided to go in for sweeping changes in the economic front and with Dr. Manmohan Singh as Finance Minister the government unveiled the Economic Reforms Package. The post liberalization era loosened the noose resulting in growing financial disintermediation, emergence of new financial products and services, greater need for professional. Acumen and wider use of technology revolutionizing the concept of banking in India leading towards that all important goal of a commercial establishment PROFITS. Banking Industry in India has always revolved around the traditional function of deposits and credit. Their role had been defined as to assist the overall economic growth with majority of share being controlled by the Government of India in most of the banks. But with the process of liberalization, the banking industry has also undergo tremendous change in the last 5 years. The market, which was largely controlled by the public sector banks, has now been facing stiff competition not only from foreign players but also from the new generation private sector banks. The rules of the game have been changing with the RBI introducing new norms to make banks more accountable and to adopt the practices followed worldwide.

1.3

TYPES OF BANKS:
The Indian Banking Industry can be broadly classified into: 1. 2. 3. 4. Public Sector Banks Old and New Private Sector Banks Foreign Banks Co-operative Banks

Public Sector Banks Public sector banks are banks wherein the government has a holding of 100%.This was a situation prior to liberalization. The stake has fallen because of a public issue in the post liberalization period. Some of the other leading banks in this segment have also proposed to come out with an equity issue to raise further capital. The government is proposing to bring out a bill wherein its share in all these banks would stand reduced to 33% from the current levels The public sector banks largely dominate the Indian Banking industry. These banks till the early 90s were involved in the traditional banking business of deposits and credit lending. The public sector banks have a strong distribution network all over the country. But the strength of the earlier periods has now become a concern for these banks. As compared to the tech-equipped distribution network of the new private sector banks and the foreign banks, these banks have found it difficult to upgrade them on the technology front. These banks are also facing the problem of surplus manpower. Most of these banks are now coming out with a VRS to bring down their number of employees and improve the efficiency ratios.

The public sector banks still control a major share in the banking operations of the country. Their inefficiencies have been exposed only when the market was thrown open for competition and new players started eating up their share. But given their size and the strong network, most of these banks can change their perception. The

recent thrust on reduction of government stake; VRS,NPA settlement schemes etc have been some of the steps in this direction. Since the growth of the economy is largely dependent on the performance of these banks, even with the growth of new private and foreign players, these banks will have an important role to play. Some of the players here are State Bank of India and its associates, Bank of Baroda, Corporation Bank, Punjab National Bank, Union Bank Of India, etc. Private Sector Banks-Old These banks existed prior to the promulgation of Banking Nationalization Act but were not nationalized due to their smaller size and regional focus. Most of these banks continue to have a regional focus and are relatively smaller in size. A large number of these banks are basically from the south. Being small in size, these banks focus on service and technology and thus face competition from new private and foreign banks. Most of these banks are trying to increase their presence nationwide and are planning to enter other business areas like insurance. The old private sector banks have performed reasonably well during the FY2000. As these banks were facing stiff competition from the new private banks and the foreign players who were making inroads in their markets, these banks have been able to increase their net profits by over 50%. As a result of the increasing competition in the sector, these banks have been trying to improve upon their margins and asset quality. Most of these banks have a high CAR and as such they do not face any capital constraint in their growth plans. Even their return on net worth has been at par in most of the cases with the other new players in the market. But the coming years would be more challenging for these banks as the public sector are also trying to adapt to the new environment and the new banks have already equipped themselves to have a major share in any opportunity that would accrue. Some of the private sector-old players are Bank of Madura Ltd., etc. Tamilnad Mercantile Bank Ltd., The Jammu & Kashmir Bank Ltd., The Vysya Bank Ltd.,

Private Sector Banks- New The Banking Regulation Act was amended in 1993 permitting the entry of new private sector banks. The act also specified certain criteria for establishing new private sector banks. The criteria are as follows: 1. The banks should have a minimum net worth of Rs1bn. 2. The promoters holding should be minimum 25% of the paid up capital. 3. The banks should offer shares to the public within three years of their operations. (This condition was relaxed in case of many banks due to poor state of capital markets). The first new private sector bank started operations in 1995. The minimum net worth requirement of Rs1bn and difficulty in getting the banking license has kept the option open for very few players. The financial institutions have promoted many of these banks. With emphasis on service and technology, it is for the first time that Indian banks are challenging the foreign banks. These banks are making heavy use of technology to give good service on par with foreign banks but to a much wider audience e.g. branch size has been reduced considerably by using technology and having less manpower. This saves the cost of the branch. In addition the ATM etc helps drawing large customers to one branch. The new private banks have been consistently gaining market share from the public sector banks. The major beneficiary of this has been corporate clients who are most sought after now. The new private sector banks have performed very well in the FY2000.Most of this banks have registered an increase in net profits of over 50%.They have been able to make significant inroads in the retail market of the public sector and the old private sector banks. During the year, the two leading banks in this sector had set a new trend in the Indian banking sector. HDFC Bank, as a part of its expansion plans had

taken over Times Bank. ICICI Bank became the first bank in the country to list its shares on NYSE. Some of the private sector-new players include, Centurion Bank Ltd., Global Trust Bank Ltd., HDFC Bank., ICICI Banking Corporation Ltd., IDBI Bank Ltd., etc. Foreign Banks Foreign banks have been doing the normal banking business in the country. During the period of nationalization, the entry of new foreign banks and expansion by existing foreign banks were prohibited. Even, when the norms were relaxed later on, RBI was very slow in granting any further approvals to these banks. But most of these banks have concentrated on the metropolitan cities of the country and have been able to do reasonably well. These banks have used the latest technology to compensate for the limited number of branches they have. In the post liberalization period, there has been a sharp increase in the total business done by the foreign banks. A number of new players have entered and the existing players have consolidated their position in the market. In the last couple of years, some of the foreign banks have entered the retail segment and introduced a number of new products in the market. This has intensified the competition in the banking sector and has made most of the old players rethink their strategy. Some of the foreign banks operating in India are ABN-AMRO Bank N.V., ANZ Grindlays Bank Ltd, Citibank N.A., Deutsche Bank AG, Standard Chartered Bank, etc. Co-Operative Banks Co-operative banks are a part of the vast and powerful superstructure of cooperative institutions, which are engaged in the tasks of production, processing, marketing, and distribution, servicing, and banking in India. The co-operative banks were conceived in order to substitute unorganized money market agencies like moneylenders, to provide adequate short-term and long-term institutional credit at

reasonable rates of interest, and to bring about integration of the unorganized and organized segments of the money market. The main aim of the co-operative banks is to provide cheaper credit to their members, and not to maximize their profits. There has been an impressive growth in deposits, credit and working capital of these banks. The annual rates of growth of co-operative banks have been quite high, and are comparable with those of commercial banks. The government and the RBI have taken a number of steps to improve the health and strength of co-operative banks in India. In keeping with other financial sectors reforms, certain co-operative banking reforms also have been carried out after 1991.

1.4 REGULATORY AUTHORITIES

The RBI and the SEBI together regulate the activities of commercial banks in India. The urban co-operative banks, in addition to these regulatory authorities, have State co-operative banks (SCBs) and the District co-operative banks (DCBs) to monitor their activities. In the policy framework, the important priority in the past few years has been to introduce appropriate norms in respect of capital adequacy, income recognition and provisioning. The RBI has introduced new guidelines to accelerate credit disbursement in infrastructure. The liberalization has changed the future course of the Indian banking scene. This has set trends in greater specialization in niche markets such as retail, hi-tech agriculture, exports, small-scale industries and corporate sector. There will be a market shift from the interest-based activities to investment and foreign exchange operations/bullion trade to shore up the bottom line.

Highlights of policy initiatives and reforms undertaken recently are as follows : 1. Bank allowed operating different PLRs for different maturities. 2. Bank allowed offering fixed rate for all term loans in conformity with ALM guidelines. 3. Wherever the deposit rate is in excess of PLR, advances to depositors against fixed depositors by banks allowed without reference to PLR ceiling. 4. Board of Directors allowed delegating necessary powers to ALM Committee for fixing interest rates on deposits and advances, subject to reporting to the Board immediately thereafter. 5. With effect from the year ending March 31, 2000, banks advised to classify a minimum of 75 % of their securities as current investments. 6. Board of Directors allowed prescribing detailed rules for determining the date of commencement of commercial production. 7. Interest rate surcharge of 30% on import finance withdrawn. 8. The minimum rate of 20 % interest on overdue export bills withdrawn ; banks allowed deciding appropriate rate of interest on overdue export bills. 9. MMMFs brought within the purview of SEBI Regulations; banks and FIs required to seek clearance from RBI for setting up MMMFs; MMMFs to set up as separate entities in the form of Trusts only. Financial Restructuring Measures 1. Deregulation of interest rates is more or less complete. 2. Gradual reduction in reserve requirement. 3. Move towards integration of various segments of financial markets. 4. Permission to banks to approach capital market for augmenting their capital base to meet capital adequacy. 5. Autonomy in operational matters.

6. Freedom to formulate bank specific loan appraisal methods. 7. Introduction of new products and players in the market resulting in increased competition in financial sector. 8. Move towards capital account convertibility. 9. Enhanced use of information technology. The banks have been allowed by the central government to enter into forward trading in gold by adding gold to the list of commodities eligible for hedging under the Forward Contract (Regulation) Act, 1952. Banks are free to fix their own interest rates on GDS. They are required to put in place risk management mechanisms to hedge the price risk arising from price fluctuations in conformity with RBI guidelines. Lending Norms The skills of Credit Risk Management is another extremely important area for the healthy functioning of any financial institution. With the adoption of international norms of income recognition and asset classification many PSBs in India find themselves burdened with huge loads of NPAs. Debt Recovery Tribunals (DRTs) were set up to help banks speed up the recovery process. DRTs were meant to handle only large defaulters with outstanding of over Rs. 10 lacs a simple and cost effective legal system. Though DRTs have started functioning for over 5 years, its impact has not been felt in the reduction of NPAs because of the delay in getting Recovery Certificate and execution of the same. At many DRTs either the Principal Officer is not posted after retirement of the existing one or the Recovery Officer is not available. Prior to the implementation of the Narsimham Committee Recommendations banks were booking interest income on advances as long as there was sufficient security to back the advance. Accrual system of accounting was followed. Now, the banks are required to classify an advance as NPA if interest or installments for 6 months are not recovered and they should not book interest income until they are recovered- a

shift from Accrual System of Accounting to Cash System. Narsimham Committee II recommendations have proposed reduction of the default period from present 6 months to 3 months. Even the Provisioning norms for bad advances underwent a sea change. Contrary to the earlier norms, now banks have to make the provision for all advances if they are NPAs on a graded bases depending on the age of NPA even though the security for an advance covers more than the outstanding debt balance. Now banks are asks to make provisions on a nominal scale on Good Advances also ( termed Standard Assets in the Bankers parlance).

1.5 REGULATORY AUTHORITIES

Universal Banking : Most of the banks have now been trying to function on the concept of a Universal Bank. Apart from the traditional functions of a commercial bank, they are taking steps to build themselves into a one stop financial centre wherein all the financial products would be available. Banks have started catering to the retail segment to improve their deposit portfolio. In order to have a maximum share in this segment, most of the banks have been introducing new products. The delivery channels have also been shifted from branches to ATMs, phone banking, net banking etc. Technology upgradation : Technology has become an important medium of not only attracting new customers but also in retaining them. The new generation private sector banks have made a strong presence in the most lucrative business areas in the country because of technology up gradation. While, their operating expenses have been falling as compared to the PSU banks, their efficiency ratios (employees productivity and profitability ratios) have also improved significantly. The innovative process of banking for improved customer services matching international standards through infusion of technology includes Electronic Funds Transfer, Tele-Banking, Any Where Banking , 7 Day week, Credit/Debit Cards, ATMs. Etc.

 Centralized on-line banking : Few banks have already taken up on-line system where the database is stored at a central place which gives customer the advantage of accessing his account from any one of the branches of the bank. It gives the customer the unique advantage of doing anywhere banking. ON LINE ANYWHERE BANKING will be the main agenda for the banks to acquire competitive edge.

Internet banking : The Internet not only allows the banks to keep the expenditure to the minimum, but also serves the customer anywhere, any time. It provides the customer the convenience of service from anywhere in the world on his time. The customer will be able to transfer money between any of his two accounts, check the status of the cheques clearance, pay bills open accounts, give standing instructions and any other operations which he normally does with the bank.

Mergers and Acquisitions : Mergers and Acquisitions have also started playing their role in the banking industry where lots of players are trying to consolidate their position. The recent merger of Times Bank with HDFC Bank and that of ICICI Bank with Bank Of Madura was an important step in this direction. In recent times, most of the new private sector banks have shown interest in inducting a foreign partner in their operations.

Bancassurance : Most of the banks are also planning to enter the insurance business and are in the process of identifying their strategic partners. Since most of the banks already have an extensive distribution network, this new business should result in substantial revenues. But with most of the top league players planning to enter this business, the more efficient and proactive players would be able to take a lead. Asset-Liability statement : From the financial year ended 31/3/2001, RBI has made it compulsory for all banks to publish along with their Audited Financial statements, a statement on Assetliability Management duly audited. Capital Adequacy Norms, Income Recognition, Asset Classification and Provisioning, have been introduced as per international norms. Capital Adequacy Norms: Capital Adequacy Norms, Income Recognition, Asset classification and Provisioning, have been introduced as per international norms. The government is planning to bring down its stake in the public sector banks from 51 % to 33%. This move will enable these banks to raise further capital to adhere to the CAR requirements and will also help in changing their perception in the market vis-a vis the private sector banks. Income Recognition and Asset Classification Norms : With the adoption of international norms of income recognition and asset classification many PSBs in India find themselves burdened with huge loads of NPAs. Debt Recovery Tribunals (DRTs) were set up to help the bank speed up their recovery process. DRTs were meant to handle only large defaulters with outstanding of over Rs. 10 lacks.

Contrary to earlier norms, now Banks have to make the provision for all advances if they are NPAs on a graded basis depending on the age of NPA even though the security for an advance that covers more than the outstanding debt balance. Now Banks are asked to make provision on a nominal scale on Good Advances also (termed Standard Assets in the Bankers parlance). Cash System of Accounting for NPAs : Prior to the implementation of the Narsimham Committee Recommendations, Banks were booking interest income on advances as long as there was sufficient was followed. Now, the banks are required to classify as advance as NPA if interest/ installments for 6 months are not recovered and they should not book interest income until they are recovered a shift from Accrual System of Accounting to cash System. Narsimham Committee recommendation has proposed reduction of the default period from present 6 months to 3 months.

1.6 INDIAN BANKING INDUSTRY PROBLEMS

The Indian banking industry is facing serious problem because of the competition posed by the foreign banks. On one hand the entry of foreign banks was advantageous to the Indian banks in the sense that foreign banks brought in latest technology along with them. But on the other hand it took away a big share of the Indian banks by using their technology over here. Even though a major part of the private banks have adopted those technologies and are in neck-to-neck competition with these banks, the main onus for development lies with the nationalized banks of our country, as they are the ones within the reach of the masses of our country. Hence technology up gradation is very much essential here.
Secondly, up to a couple of years earlier, the Indian banks functioned mainly as

an intermediary offering loans and deposits to its customer. It is only now that the concept of customer-the-king has popped up.
The third and the most important problem that the Indian banks are facing is the

problem of their NPAs. It is only since a couple years that this particular aspect has

been given so much importance. The increasing amount of NPAs eats away major part of the banks profits. The banks have to overcome these difficulties properly in order to effectively counter the competition faced by the foreign banks. With the framing of laws as per international standards and setting up of Debt recovery tribunals we can say that steps have been taken in this direction.

1.7 WHERE THE INDUSTRY IS HEADED

The banking industry in India, long associated with obsolete infrastructure and influenced by die-hard traditionalists, is waking up to the winds of change. According to L.G.Kulkarni, If people in banks are not attuned to the new meaning and the new culture, they will have no place in the emerging scenario. In the changing global scenario banks in India will have to have clear objectives, such as: 1. Enhancing technology. 2. Enhancing asset quality and profitability of the bank. 3. Streamling the organizational structure in accordance with the changing environment. 4. Increasing staff involvement through HRD and training while enhancing job satisfaction of employees. 5. Projecting the image of the bank as a socially responsive and viable organization and 6. Continuing to act as a financial intermediary while at the same time responding to the growing needs of the customer the efficiency of operations by employing high

1) Outsourcing The challenge of managing the diverse services in a networked environment has caused the banks to introspect on what should be considered as their core skills and primary roles. If banks do invest in creating these skills sets, the value that can be unlocked by spinning off the technology unit is much greater than the advantage of keeping it in-house. This could be in two forms- the products developed or the services company that produces application themselves, In future, banks will need to focus on value-differtiating services by keeping in-house their competitive advantages while partnering with others who complement its services-making the argument for best-of-breed integration a necessity. 2) In sourcing In sourcing is a model wherein banks perform operations that are originally done by their customers/other banks. Corporate clients may outsource activities like receivable management, accounting and risk management of corporate investments to banks. New product offerings will emerge as a combination of existing products and the new in sourced activities Banks, with their established processing capacities, are ideal partners of insurance and other financial service firms in their pursuit of customer reach and service provision. 3) Product management Existing products and services are changing way for value-added ones thanks to the one-upmanship game among competing banks, sparked off by soaring consumer-demands. In future, the market space will see banks and non-banks striving to seek opportunities for profit, in wake of product commoditization. 4) Adjust, adapt, and change. Thats the message that technology has sent across to modern day banking. The new mindset is illustrated by innovations and speculative bets taken by banks, where investments in technology have focused on benefit-realization. Banks that adapt this mindset will realize benefits from:

 Customer management-focused investments where integrated informational views and transactional capabilities across products, services, and channels will enable the banks to obtain a better picture of customer preferences, risk, and profitability. Investments aimed at managing risk and regulation issues with banks gaining the ability to identify, manage, and allocate risk exposures on across the enterprise to prioritize business decisions. Developing a portfolio of shared service alliances focused on providing integrated cross-channel access and new range of services. Implementing best-of-breed workflow around the core e-Enabled business systems to provide the right linkages to yield business benefits. In India, investments in technologies by financial services organizations are increasing, and new initiatives emerging, albeit at a basic level (See The Impact Of IT). However, in the long run, it is evident that technology investments in transaction and process automation will cease to be a differentiator. 5) Payments systems In recent years, alternate money transmission avenues, especially the development of electronic money schemes, have been gaining currency. This raises policy issues for central banks in its role as the guardian of the payment network and implementer of the monetary policy. The emergence of peer-to-peer money tansmission mechanisms poses a challenge to current role of banks as gatekeepers to traditional payment systems. Robust payment systems, therefore are a key requirement in maintaining and promoting financial stability with technology playing both a facilitating and disruptive role in them. Despite the radical new trends emerging, banks will continue to play their role as trust-enablers in all commercial activities. Their role as financial intermediaries and payment enablers will also continue,but they will be outsourcing all non-core activities to specialized service providers and in source opportunities where they have a saleable value proposition. The transfer of money will not generate profits-it

will, however, be the basis of other services that banks will provide. The level of integration that banks achieve with their customers supply chain will determine profitability. Armed with a technology backbone, banking will remain the best business model for managing liquidity, creating trust, and managing risk. The ability to make informed decisions based on business benefits, to become intelligent investors in technology, and seek sourcing options would be some tenents of successful organizations on the right side of this divide. 6) Analytics As they realize that product and related services by themselves cannot provide sustainable competitive advantage, banks are paying more attention to relationship with their customers and the way they manage risk, determine price, and allocate capital.Going forward, banks will attempt to augment their behavioral and economic views of the customer, preferably captured at point of contact in addition to existing transactional and demographic data (In-house an external). Banks will require use of analytics to effectively manage their customer relationships, conduct detailed analysis that help more accurately model, and predict future customer behavior and lay a quantified foundation for strategic decision making. The future will see increasing investment in risk analytics as part an integrated framework supporting asset pricing, performance measurement, and asset allocation models.

COMPANY

PROFILE

STATE BANK OF INDIA

The origin of the State Bank of India goes back to the first decade of the nineteenth century with the establishment of the Bank of Calcutta in Calcutta on 2 June 1806. Three years later the bank received its charter and was re-designed as the Bank of Bengal (2 January 1809). A unique institution, it was the first joint-stock bank of British India sponsored by the Government of Bengal. The Bank of Bombay (15 April 1840) and the Bank of Madras (1 July 1843) followed the Bank of Bengal. These three banks remained at the apex of modern banking in India till their amalgamation as the Imperial Bank of India on 27 January 1921. Primarily Anglo-Indian creations, the three presidency banks came into existence either as a result of the compulsions of imperial finance or by the felt needs of local European commerce and were not imposed from outside in an arbitrary manner to modernise India's economy. Their evolution was, however, shaped by ideas culled from similar developments in Europe and England, and was influenced by changes occurring in the structure of both the local trading environment and those in the relations of the Indian economy to the economy of Europe and the global economic framework.

Bank of Bengal H.O.

Establishment The establishment of the Bank of Bengal marked the advent of limited liability, joint-stock banking in India. So was the associated innovation in banking, viz. the decision to allow the Bank of Bengal to issue notes, which would be accepted for payment of public revenues within a restricted geographical area. This right of note issue was very valuable not only for the Bank of Bengal but also its two siblings, the Banks of Bombay and Madras. It meant an accretion to the capital of the banks, a capital on which the proprietors did not have to pay any interest. The concept of deposit banking was also an innovation because the practice of accepting money for safekeeping (and in some cases, even investment on behalf of the clients) by the indigenous bankers had not spread as a general habit in most parts of India. But, for a long time, and especially upto the time that the three presidency banks had a right of note issue, bank notes and government balances made up the bulk of the investible resources of the banks. The three banks were governed by royal charters, which were revised from timeto time. Each charter provided for a share capital, four-fifth of which were privately subscribed and the rest owned by the provincial government. The members of the board of directors, which managed the affairs of each bank, were mostly proprietary directors representing the large European managing agency houses in India. The rest were government nominees, invariably civil servants, one of whom was elected as the president of the board.

Group Photograph of Central Board (1921)

Business The business of the banks was initially confined to discounting of bills of exchange or other negotiable private securities, keeping cash accounts and receiving deposits and issuing and circulating cash notes. Loans were restricted to Rs.one lakh and the period of accommodation confined to three months only. The security for such loans was public securities, commonly called Company's Paper, bullion, treasure, plate, jewels, or goods 'not of a perishable nature' and no interest could be charged beyond a rate of twelve per cent. Loans against goods like opium, indigo, salt woollens, cotton, cotton piece goods, mule twist and silk goods were also granted but such finance by way of cash credits gained momentum only from the third decade of the nineteenth century. All commodities, including tea, sugar and jute, which began to be financed later, were either pledged or hypothecated to the bank. Demand promissory notes were signed by the borrower in favour of the guarantor, which was in turn endorsed to the bank. Lending against shares of the banks or on the mortgage of houses, land or other real property was, however, forbidden. Indians were the principal borrowers against deposit of Company's paper, while the business of discounts on private as well as salary bills was almost the exclusive monopoly of individuals Europeans and their partnership firms. But the main function of the three banks, as far as the government was concerned, was to help the latter raise loans from time to time and also provide a degree of stability to the prices of government securities.

Old Bank of Bengal

Major change in the conditions A major change in the conditions of operation of the Banks of Bengal, Bombay and Madras occurred after 1860. With the passing of the Paper Currency Act of 1861, the right of note issue of the presidency banks was abolished and the Government of India assumed from 1 March 1862 the sole power of issuing paper currency within British India. The task of management and circulation of the new currency notes was conferred on the presidency banks and the Government undertook to transfer the Treasury balances to the banks at places where the banks would open branches. None of the three banks had till then any branches (except the sole attempt and that too a short-lived one by the Bank of Bengal at Mirzapore in 1839) although the charters had given them such authority. But as soon as the three presidency bands were assured of the free use of government Treasury balances at places where they would open branches, they embarked on branch expansion at a rapid pace. By 1876, the branches, agencies and sub agencies of the three presidency banks covered most of the major parts and many of the inland trade centres in India. While the Bank of Bengal had eighteen branches including its head office, seasonal branches and sub agencies, the Banks of Bombay and Madras had fifteen each.

Bank of Madras Note Dated 1861 for Rs.10

Presidency Banks Act The presidency Banks Act, which came into operation on 1 May 1876, brought the three presidency banks under a common statute with similar restrictions on business. The proprietary connection of the Government was, however, terminated, though the banks continued to hold charge of the public debt offices in the three presidency towns, and the custody of a part of the government balances. The Act also stipulated the creation of Reserve Treasuries at Calcutta, Bombay and Madras into which sums above the specified minimum balances promised to the presidency banks at only their head offices were to be lodged. The Government could lend to the presidency banks from such Reserve Treasuries but the latter could look upon them more as a favour than as a right.

Bank of Madras

The decision of the Government to keep the surplus balances in Reserve Treasuries outside the normal control of the presidency banks and the connected decision not to guarantee minimum government balances at new places where branches were to be opened effectively checked the growth of new branches after 1876. The pace of expansion witnessed in the previous decade fell sharply although, in the case of the Bank of Madras, it continued on a modest scale as the profits of that bank were mainly derived from trade dispersed among a number of port towns and inland centres of the presidency. India witnessed rapid commercialisation in the last quarter of the nineteenth century as its railway network expanded to cover all the major regions of the country. New irrigation networks in Madras, Punjab and Sind accelerated the process of conversion of subsistence crops into cash crops, a portion of which found its way into the foreign markets. Tea and

coffee plantations transformed large areas of the eastern Terais, the hills of Assam and the Nilgiris into regions of estate agriculture par excellence. All these resulted in the expansion of India's international trade more than six-fold. The three presidency banks were both beneficiaries and promoters of this commercialisation process as they became involved in the financing of practically every trading, manufacturing and mining activity in the subcontinent. While the Banks of Bengal and Bombay were engaged in the financing of large modern manufacturing industries, the Bank of Madras went into the financing of large modern manufacturing industries, the Bank of Madras went into the financing of smallscale industries in a way which had no parallel elsewhere. But the three banks were rigorously excluded from any business involving foreign exchange. Not only was such business considered risky for these banks, which held government deposits, it was also feared that these banks enjoying government patronage would offer unfair competition to the exchange banks which had by then arrived in India. This exclusion continued till the creation of the Reserve Bank of India in 1935.

Bank of Bombay

Presidency Banks of Bengal The Presidency Banks of Bengal, Bombay and Madras with their 70 branches were merged in 1921 to form the Imperial Bank of India. The triad had been transformed into a monolith and a giant among Indian commercial banks had emerged. The new bank took on the triple role of a commercial bank, a banker's bank and a banker to the government.

But this creation was preceded by years of deliberations on the need for a 'State Bank of India'. What eventually emerged was a 'half-way house' combining the functions of a commercial bank and a quasi-central bank.

The establishment of the Reserve Bank of India as the central bank of the country in 1935 ended the quasi-central banking role of the Imperial Bank. The latter ceased to be bankers to the Government of India and instead became agent of the Reserve Bank for the transaction of government business at centres at which the central bank was not established. But it continued to maintain currency chests and small coin depots and operate the remittance facilities scheme for other banks and the public on terms stipulated by the Reserve Bank. It also acted as a bankers' bank by holding their surplus cash and granting them advances against authorised securities. The management of the bank clearing houses also continued with it at many places where the Reserve Bank did not have offices. The bank was also the biggest tenderer at the Treasury bill auctions conducted by the Reserve Bank on behalf of the Government.

The establishment of the Reserve Bank simultaneously saw important amendments being made to the constitution of the Imperial Bank converting it into a purely commercial bank. The earlier restrictions on its business were removed and the bank was permitted to undertake foreign exchange business and executor and trustee business for the first time. Imperial Bank The Imperial Bank during the three and a half decades of its existence recorded an impressive growth in terms of offices, reserves, deposits, investments and advances, the increases in some cases amounting to more than six-fold. The advances, the increases in some cases amounting to more than six-fold. The financial status and security inherited from its forerunners no doubt provided a firm and durable platform. But the lofty traditions of banking which the Imperial Bank consistently maintained and the high standard of integrity it observed in its operations inspired confidence in its depositors that no other bank in India could perhaps then equal. All these enabled the Imperial Bank to acquire a

pre-eminent position in the Indian banking industry and also secure a vital place in the country's economic life.

Stamp of Imperial Bank of India

When India attained freedom, the Imperial Bank had a capital base (including reserves) of Rs.11.85 crores, deposits and advances of Rs.275.14 crores and Rs.72.94 crores respectively and a network of 172 branches and more than 200 sub offices extending all over the country.

First Five Year Plan In 1951, when the First Five Year Plan was launched, the development of rural India was given the highest priority. The commercial banks of the country including the Imperial Bank of India had till then confined their operations to the urban sector and were not equipped to respond to the emergent needs of economic regeneration of the rural areas. In order, therefore, to serve the economy in general and the rural sector in particular, the All India Rural Credit Survey Committee recommended the creation of a state-partnered and state-sponsored bank by taking over the Imperial Bank of India, and integrating with it, the former state-owned or state-associate banks. An act was accordingly passed in Parliament

in May 1955 and the State Bank of India was constituted on 1 July 1955. More than a quarter of the resources of the Indian banking system thus passed under the direct control of the State. Later, the State Bank of India (Subsidiary Banks) Act was passed in 1959, enabling the State Bank of India to take over eight former State-associated banks as its subsidiaries (later named Associates).

The State Bank of India was thus born with a new sense of social purpose aided by the 480 offices comprising branches, sub offices and three Local Head Offices inherited from the Imperial Bank. The concept of banking as mere repositories of the community's savings and lenders to creditworthy parties was soon to give way to the concept of purposeful banking subserving the growing and diversified financial needs of planned economic development. The State Bank of India was destined to act as the pacesetter in this respect and lead the Indian banking system into the exciting field of national development

The Bank is actively involved since 1973 in non-profit activity called Community Services Banking. All SBI branches and administrative offices throughout the country sponsor and participate in large number of welfare activities and social causes.SBI business is more than banking because we touch the lives of people anywhere in many ways. SBI commitment to nation-building is complete & comprehensive.

TECHNOLOGY UPGRADATION SBIs Information Technology Programme aims at achieving efficiency in operations, meeting customer and market expectations and facing competition. SBI achievements are summarized below:
FULL BRANCH COMPUTERISATION (FCBs):

All the branches of the Bank are now

fully computerised.This strategy has contributed to improvement in customer service.

ATM SERVICES:

There are 5290 ATMs on the ATM Network. These ATMs are located

in 1721 centres spread across the length and breadth of the country, thereby creating a truly national network of ATMs with an unparalleled reach. Value added services like ATM locator, payment of fees for college students, multilingual screens, voice over and drawal of cash advance by SBI credit card holders have been introduced. This on-line channel enables customers to access their

INTERNET BANKING (INB):

account information and initiate transactions on a 24x7, boundary less basis. 2225 branches, covering 555 centres are extending INB service to their customers. All functionalities other than Cash and Clearing have been extended to individual retail customers. A separate Internet Banking Module for Corporate customers has been launched and available at 1305 branches. Bulk upload of data for Corporate, Inter-branch funds transfer for Retail customers, Online payment of Customs duty and Govt. tax, Electronic Bill Payment, SMS Alerts, E-Poll, IIT GATE Fee Collection, Off-line Customer Registration Process and Railway Ticket Booking are the new features deployed. GOVT. BUSINESS : Software has been developed and rolled out at 7785 fully

computerised branches. Electronic generation of all reports for reporting, settlement and reconciliation of Govt. funds is available.

STEPS : Under STEPS, the bank's electronic funds transfer system, the Products offered are eTransfer (eT), eRealisation (eR), eDebit (CMP) and ATM reconciliation. STEPS handles payment messages and reconciliation simultaneously.

SEFT: SBI has launched the Special Electronic Fund Transfer (SEFT) Scheme of RBI, to facilitate efficient and expeditious Inter-bank transfer of funds. 241 branches of our Bank in various LHO Centres are participating in the scheme. Security of message transmission has been enhanced.

MICR Centres: MICR Cheque Processing systems are operational at 16 centres viz. Mumbai, New Delhi, Chennai, Kolkata, Vadodara, Surat, Patna, Jabalpur, Gwalior, Jodhpur, Trichur, Calicut, Nasik, Raipur, Bhubaneswar and Dehradun.

Core Banking:

The Core Banking Solution provides the state-of-the-art anywhere

anytime banking for our customers. The facility is available at 1012 branches.

Trade Finance : The solution has been implemented, providing efficiency in handling Trade Finance transactions with Internet access to customers and greatly enhances the bank's services to Corporates and Commercial Network branches. This new Trade Finance solution, EXIMBILLS, will be implemented at all domestic branches as well as at Foreign offices engaged in trade finance business during the year.

WAN : The bank has set up a Wide Area Network, known as SBI connect, which provides connectivity to 4819 branches/offices of SBI Group across 385 cities as at 31st March 2005. This network provides across the board benefits by providing nationwide connectivity for its business applications

Directors on the Bank's Central Board as on 31st December 2005

Sl.No

Name of Director

Section SBI Act

under

1. 2. 3. 4. 5. 6. 7.
8.

Shri.Arun Kumar Purwar Section 19 (a) Chairman Shri.T.S.Bhattacharya Section 19 (b) Managing Director Prof. M.S. Swaminathan Section 19 (c) Shri.Ajay G.Piramal Shri.Suman Kumar Bery Dr. Ashok Junjhunwala Shri.A.C.Kalita Shri. Amar Pal Shri.Arun Singh Shri.Rajiv Pandey Shri.Piyush Goyal Shri.Ashok K Jha Smt.Shyamala Gopinath Section 19 (c) Section 19 (c) Section 19 (c) Section 19 (ca) Section 19 (cb) Section 19 (d) Section 19 (d) Section 19 (d) Section 19 (e) Section 19 (f)

9. 10. 11. 12. 13.

ASSOCIATE BANKS
State Bank of India has the following seven Associate Banks (ABs) with controlling interest ranging from 75% to 100%. 1. State Bank of Bikaner and Jaipur (SBBJ) 2. State Bank of Hyderabad (SBH) 3. State Bank of Indore (SBIr) 4. State Bank of Mysore (SBM) 5. State Bank of Patiala (SBP) 6. State Bank of Saurashtra (SBS) 7. State Bank of Travancore (SBT)

The seven ABs have a combined network of 4596 branches in India which are fully computerized and 1070 ATMs networked with SBI ATMs, providing value added services to clientele. The ABs recorded an impressive performance during 2003-04. The combined net profit of these banks increased by 38% over the previous year to reach Rs.1938 crores. Deposits and advances grew by 20% and 22%, respectively, during the year. Three of the ABs viz. SBIr, SBP and SBS achieved NIL Net NPA status while the combined Net NPA ratio of all ABs was at 0.84% as on 31st March 2004.The highlights of performance of the seven ABs for the year 2003-04 are as follows:
(Rs. In crores) Deposits Loans Investments Total Assets Return on Assets No. of Branches 114272 62582 62097 141441 1.37% 4599

CHAPTER- TWO RESEARCH DESIGN

Research Plan
(A) Defining the Problem :

Non performing Assets in banking Industry has became a subject of

intense importance and discussion . It has assumed greater significance in the world of banking and banks. It has become a barometer of the health of banks and discussions on any bank is incomplete without the mention of NPA, NPA has now become heart of the banking Industry, which in turn, is the heart of finance and economy of a nation.
Assets of a bank, generally, consist of cash investment, loans and advances, fixed assets and miscellaneous assets. The resources of a bank are deployed in these assets. The resources consist of capital and reserves, deposits, borrowings and other liabilities. These liabilities are carried at a cost and hence its deployments into various assets should generate enough income to service the cost of the liabilities. In other words, the assets in which the liabilities are deployed should perform in such a way that it generate income to cover the cost of resources and also a surplus, which is a profit of the bank, Thus the performance of assets reflects the health of the banking industry. Earlier, the buzzword in the banking industry was deposits as it is the basic raw material for the banking industry. The status of the bank was, determined on the volume and size of its deposits. The career of bankers used to depend on the level of

deposits achieved by him. Banks were not bothered about the performance of their assets. But from 1991, a sea change was made in the way income of banks was recognized. With the first generation economic and finance sector reforms coming into being, the method of income recognition in the banking sector was changed from accrual basis to cash basis. An income will be carried to profit and loss account only of it is realized in cash in 180 days. This was like a bolt from blue for deposit happy bankers. All along, they were simply doing an accounting exercise in debiting a loan account and credit the income account without bothering to see whether it is actually paid by the borrower or not. Thus the performance of an asset was defined for the first time in Indian Banking Industry. This change of income recognition compelled the banks to unrecognized the income if the interest is not received in cash from the borrowers. Not only this, depending upon the quality of the assets, various provisions is now required to be made on such non performing assets. This had compelled many large banks to declare loss for the first time in history of banking. This had ominous portents for the entire banking industry. This also resulted in dwindling flow of credit of trade and industry. Thus NPA has the potential to directly affect the economy of the country. Many big nations like Japan are suffering from this disease of high NPAs. Our country also now having a large portion of bank credit locked in NPAs and hence NPA is receiving greater importance of NPAs , that we thought to select it as a subject for Grand Project.

2.1 Research Problem

To study the state of recovery management.

2.2 Research Objective

(1) To identify reasons that lead to NPAs (2) To formulate methods for efficient recovery.

2.2 Research Methodology

(1) Sample Design The target population consists of all the Banks of Ahmedabad and Gandhinagar (Gujarat State) The sample size comprise of Twenty one Executives of different banks of Gujarat.

(2) Collection of Data A structured questionnaire was prepared to elicit information form the respondents. Secondary data collection was done through data available from Books, Periodicals, Websites, Bulletins and other such sources. (3) Sampling Method The research was done using Simple Random Sampling. (4) Data Analysis The analysis of primary data is done with the help of computerized statistical tools.

Limitations
1. The sample size may not necessarily represent true state of banks in the country. 2. All the answers given by the respondents have been assumed to be true. 3. Decisions on recovery management are largely taken at the Head Quarters. The project was undertaken in Gandhinagar and Ahmedabad hence the concerned decision makers in this context couldnt be contacted.

CHAPTER THREE RECOVERY MANAGEMENT

3.1 Introduction
The crucial factor that decides the performance of banks nowadays is the spotting of non-performing assets (NPA). NPAs are those loans given by a bank of financial institution where the borrower defaults of delays interest of principal payments. Banks are now required to recognize such loans faster and then classify them as problem assets. Close to 16 percent of loans made by Indian banks are NPAs-very high compared to 5 percent in advanced countries. Banks are not allowed to book any income from NPAs. Also, they have to provide for these NPAs, or keep money aside in case they cant collect from the borrower, which affects their profitability adversely. Classification of NPAs In April 1992, it was decided to implement the Narsimham Committees recommendations on financial sector reforms in a phased manner over a three-year period commencing from the financial year 1992-93. Income Recognition, Assets Classification and Provisioning (IRAC) norms were introduced with a view to reflect a true picture of financials of Banks on the basis of their booking the income on actual basis than on accrual basis and also classify assets according to the level of risks attached to them. The criteria for classification is : Performing/Standards Assets: Loan assets in respect of which interest and

principal are received regularly are called standard or performing assets. Standard assets also include loans where arrears of interest and / or of principal do not exceed 180 days as at the end of a financial year. No provisioning is required for such loans. Non-Performing Assets: According to RBI rules, any loan repayment or interest thereof that is delayed beyond 180 days has to be identified as an NPA. NPAs are further sub-classified into sub-standard, doubtful and loss assets:

Sub-standard Assets : Sub-standard assets are those that are non-performing for a period not exceeding two years. Also, in cases where the loan repayment is rescheduled, RBI has asked banks to recognize the loans as sub-standard at least for one year. Doubtful Assets : Loans which have remained non-performing for a period exceeding two years and which are not considered as loss assets are known as doubtful assets. Major portions of assets under this category relate to sick companies referred to the Board for Industrial and Financial Reconstruction (BIFR) and waiting finalization of rehabilitation packages. Loss Assets: A loss asset is one where loss has been identified but the amount has not been written off wholly or partly. In other words, such an asset is considered uncollectible. There may be some salvage value. Provision for NPAs The RBI has also laid down provisioning rules for the non-performing assets. This means that banks have to set aside a portion of their funds to safeguard against any losses incurred on impaired loans. Banks have to set aside 10 percent of sub-standard assets as provisions. The provisioning for doubtful assets is 20 percent and for loss assets it is 100 percent.

3.2 Growth in NPAs

Banks started classifying their assets as per the norms prescribed by RBI since 199293. A significant part of the problem was on account of the carry over of old NPAs in certain sunset industries. Despite further tightening of IRAC norms by RBI in a phased manner since 195-96, the NPAs position started improving in percentage terms through the absolute figure for gross and net NPAs kept on increasing steadily after 1996 as depicted from the following table.

Size of Gross and Net NPAs of Public Sector Bank (PSBs) Year 1993 1994 1995 1996 1997 1998 1999 2000 Gross NPAs 39253 41041 38385 41661 43577 45653 51710 53294 % of Gross Adv. 23.20 24.80 19.50 18.00 17.80 16.00 15.90 14.00 % of Total Asset 11.80 10.80 8.70 8.20 7.80 7.00 6.70 6.00 Net NPAs (#) NA NA 17567 18297 20285 21232 24211 26188 % of Net Adv. NA NA 10.70 8.90 9.20 8.20 8.10 7.40 % of Total Assets NA NA 4.00 3.60 3.60 3.30 3.10 2.90

Source : Trends an Progress of Banking in India, R.B.I Publication. NA : Not available (#) : Net NPAs are derived from gross NPAs by excluding; i. Balance in interest Suspense Account, i.e. interest due but not received; ii. DICGC/ECGC claim received and kept in suspense account pending adjustment (for final settlement); iii. Part payment received and kept in suspense account; and iv. Total provisions held.

Growth of NPAs Year 1993 1994 1995 1996 1997 1998 1999 2000

Gross NPAs 39253 41041 38385 41661 43577 45653 51710 53294

60000 50000 40000 30000 20000 10000 0 1 2 3 4 5 6 7 8 Year

Gross NPAs

year gross NPA

CATEGORY, GROUP AND SECTOR WISE CLASSIFICATION OF NPAs OF PUBLIC SECTOR BANKS (PSBs) (1997-98 TO 1999-2000)
Year Gross NPAs
Category wise Classification Sub Std. Asset Doubtful Loss Asset. Asset 25819 /56.5/ 29252 /56.5/ 30353 /57.3/ 5371 /11.7/ 6425 /12.4/ 6398 /12.0/ Group wise Classification Sub Std. Doubtful Asset Asset. 14463 {5.1} 16033 {4.9} 16361 {4.3} 25819 {9.0} 29252 {9.0} 30535 {8.0} Loss Asset 5371 {1.9} 6425 {2.0} 6398 {1.7} Sector wise Classification Priority Non Public Sector Priority Sector Sector 21184 [46.4] 22606 [43.7] 23715 [44.5] 23107 [50.6] 27608 [53.4] 28524 [53.5] 1362 [3.0] 1496 [2.9] 1055 [2.0]

1998 1999 2000

45653 (16.0) 51710 (15.9) 53294 (14.0)

14463 /31.7/ 16033 /31.0/ 16361 /30.7/

Source : Trends and Progress of Banking in India (RBI Publication). Notes : Figures given in () indicate % of gross NPAs to total fross advances. Figures given in // indicate %of category wise classification of gross NPAS. Figures given in {} indicate % of group wise classification of gross NPAs to total gross NPAs to total gross advances. Figures given in [ ] indicate % of sector wise classification of gross NPAs

It is seen from the above table that gross NPAs in PSBs since the inception of the IRAC norms is that the level of Standard Assets has shown consistent improvement form 76.8% in 1992-93 to 86% in 1999-2000. The level of gross and net NPAs have shown an improvement in recent years, but in still remains high. Concerted efforts with timely assistance to borrowal units in the part of the PSBs may convert at least 30% of these sub-standard assets into standard assets. A large chunk of Gross NPAs is, however, blocked in Doubtful or Loss Assets where the chances of turnaround are remote and PSBs have to largely rely on legal system.

POSITION OF ACTUAL NET WORTH VIS--VIS NET WORTH AFTER ACCOUNTING FOR NET NPAS OF PSBs
Year 1999 2000 Capital 14406 14234 Reserves 27447 31819 TNW 41853 46053 Net NPAs 24211 26188 Actual Networth 17642 19862

It can be seen from the above analysis that Net NPAs or unaccounted for NPAs are as high as 57% of aggregate net worth of PSBs. If Net NPAs were also Knocked out from the TNW of PSBs, the TNW would stand reduced to 435 of their existing net worth.

3.3 Cost of NPAs

In the following table, an attempt has been made to calculate the operating cost of NPAs and also the loss of opportunity cost at then prevailing Bank Rates for the years ended as on 31.3.1998, 31.3.1999 and 31.3.2000. For the purpose of calculation, the level of gross NPAs has been taken into account over the above the 5% level of NPAs assuming that this is the international standard of NPAs: Cost of NPA and Loss of Opportunity Cost to Banks
Year Total Adv. (2) 284971 325328 380077 Gross NPAs (3) 45653 51710 53294 Gross NPAs over 5% of total adv. (4)[3-5% of 2] 31405 35444 34290 Maintenance cost @11% p.a. (5)[11% of 4] 3455 3899 3772 Bank rate (6) 10.5 8.0 8.0 Opportunity cost at Bank rate compounded with quarterly rests (7)[%of 4] 3430 2922 2827 Total Loss (8) [5+7] 6885 6821 6599

(1) 1998 1999 2000

It can be observed that NPAs are directly and directly hitting the bottomline of PSBs and also nullifying their efforts to increase their profitability.

3.4 Debt Recovery Problems

(1) To identify assets and properties of borrowers and guarantors is a difficult exercise. Even when banks get the decrees, execution may be difficult as the exact position of borrowers/ guarantors properties may not be known .i.e. whether it is unencumbered, in good physical and financial condition etc. (2) Constraints of time and adequate staff to supervise and follow-up the large number of accounts that are often scattered over wide areas, also hinders recovery effort. At times inadequate transport and roads also hinders recovery effort. At times inadequate transport and roads also make it difficult to reach borrowers. (3) Despite the good intentions, it will depend on how fast the measures are implemented. Since their introduction in 1994, DRTs have not been able to make a sound impact due to the lethargy on the implementation front. Unless the Government takes concrete and speedy measures to strengthen the Tribunals and streamline the legal systems, the DRTs will amount to deferring the NPA problem. (4) As against 50 to 60 Judges in High Courts, the Act provides for only one presiding Officer for each Tribunal. The appellate Tribunal has suggested that when the number of pending cases exceeds 2000, Government should appoint another Presiding Officer. This suggestion needs to be acted upon quickly to prevent further delay in the settlement of cases. Further, the Tribunals need to have their own permanent staff instead of depending mainly on persons who are on deputation. (5)Legal Methods-present scenario Delay in disposing of the cases (10 to 20 years) are prohibitive and expensive appeals further delay the process of awarding decree. Also the interest is only 6% p.a. simple on principal.

Suggestions
(a) Need for a time frame for disposal of cases. (b) For non payment of bank decretal dues parties to be put in civil

imprisonment without fail. (c) Misuse of hypothecated securities to be treated as an offence the lines of Sec 138 of N.I. Act with 2 years rigouous

punishable on imprisonment.

(6)Statutory powers Empowering banks to acquire assets for disposal without intervention of courts. (sec. 29 of State Financial Act.) This would work as deterrent against intentional defaulters. (7)Lok Adalats (a) Establishing Lok Adalats in all States. (b) To be made compulsory for both borrowers and banks for settlement of smaller loans (present limit 5. Lac) (8)BIFR (a) Relook into functioning of BIFR- whether objectives achieved since the ratio of cases registered and cases dismissed/winding up was only 49% in 1996. (b) Increase in number of benches-Housing separate benches for major cities like Mumbai, Chennai. (c) Time frame for rehabilition (6 months). (d) Reference to BIFR should be prerogative of banks. (e) Prevent unscrupulous/deshonest promoters taking shelter under BIFR. (9) In the case of immovable property, recovery continues to be a problem even where the court decree of certificate has been passed. While the Act provides for attachment and sale of property after the court decree has been issued there is no provision to prevent a borrower from disposing off the property while the suit is

still on. DRT Act empowers Recovery Officers to recover the debt through attachment and sale of movable or immovable property of the defendant but does not explicitly mention how to enforce hypothecation, mortgage, etc. (10) There are instances where the borrower has mortgaged the same property to several banks and availed facilities with predetermined criminal intention to cheat the banks with false and fabricated documents. (11) Valuation reports of properties are inflated to suit the needs of the borrowers. (12) Several problems have been faced by the banks while obtaining shares as collateral security. As the shares are not transferred in the name of the bank, ultimately the matter has to be taken to the Company Law Board (CLB) for redressal, which, not to mention, consumes very much time.

3.5 The effect of credit growth on NPAs

FINANCIAL year 2004-05 has seen substantial growth in bank credit. As on March 18, 2005, the annual credit growth was 26.2 per cent against a much lower 16 per cent in the previous year. In this context, it is important to look at the trend in nonperforming assets (NPAs) of banks. NPAs are largely a fallout of banks' activities with regard to advances, both at the management and implementation levels (including overall controls by the top management), the credit appraisal system, monitoring of end-usage of funds and recovery procedures.

It also depends on the overall economic environment, the business cycle and the legal environment for recovery of defaulted loans. Since the overall environment is more or less same for all banks, non-performing loans of individual banks are mainly a result of management controls and systems put in place by them. A bank with an efficient credit appraisal and loan recovery system will grow stronger over the years. Such banks have good management control and also inherent strengths in terms of a highly motivated staff, good checks and balances, which are further enhanced by a regulatory and supervisory system. As the growth in advances is largely determined by the economic and business environment, such banks will be able to push their credit portfolio aggressively, especially when the economy is booming. Also, as such banks have a diversified credit portfolio, it would act as a cushion during economic downturns. This will result in lower NPAs, allowing them to grow stronger and even adopt a more aggressive growth strategy and, thereby, withstand marginally higher incidences of default. However, a bank without inherent strengths will not be able to push their credit portfolio the way they want to. They are characterised by poor management control, inadequate credit appraisal and even low levels of motivation among the staff. When such banks push their advances portfolio, chances of their asset quality deteriorating are higher. Since asset quality will be visible only after credit disbursal, which itself depends on the regulatory definition of NPAs, any deterioration will be reflected after a time lag. Thus, banks without inherent strength will have higher NPA levels, especially when the economy has seen above average credit growth.

3.6 Factors affecting NPAs

General environmental factors: These include business cycles, the legal framework, ethical standards, the regulatory and supervisory system, and the political environment. Bank specific factors: The credit appraisal system; credit recovery

procedures; controls, checks and balances adopted by the top management; the risk management system in place; and the motivation level of staff. Thus, for both healthy and not-so-healthy banks, asset quality after an above average credit growth has a major effect on NPAs. One way to capture the effect of deterioration in the asset quality is to consider cumulative growth rates of credit, which also captures the time-lag effect of credit migration.

A quick analysis (see Table 1) shows that high cumulative growth of advances (2000-01 over 1997-98) was followed by a spurt in NPAs in later years for a majority of the banks. Of the 18 banks with more than 80 per cent cumulative growth, 12 witnessed increased NPA levels. While State Bank of Indore, Jammu & Kashmir Bank, Andhra Bank and UTI Bank reduced their NPAs in 2000-01 over 1999-00, United Western Bank, Global Trust Bank and ICICI Bank, among others, saw substantially higher NPA levels.

Such comparison may not be fully relevant now. Banks have managed to reduce their NPAs substantially over the years, thanks to higher provisions and an improved legal framework for pursuing bad loans. Thus, while comparison with the past may not be fair, lessons from the past may not be inappropriate. Banks with an aggressive approach to credit growth may have to handle their advances portfolio with care, especially after a spurt in overall credit growth. Given the cumulative growth in advances, which can be classified as low or high credit growth compared to an average `middle' growth, it may be appropriate to look at resulting NPAs, which can also classified as low or high, again as compared to an average or middle level NPA. In statistical jargon, this could be viewed as an attempt to create 2 x 2 contingency tables, with one variable as cumulative credit growth and the other as NPAs. The classifications are based on average cumulative growth for each year.

To reduce the effect of outliers on classification, extreme observations are excluded while averaging. Such classification is done for four years from 2000-01 to 2003-04 on the basis of three years' cumulative growth of advances (Table 2). From Table 2 it can be seen that banks fall in four categories along with number of years it appeared in the category. For instance, State Bank of India has low cumulative credit growth followed by low NPAs for all the four years from 2000-01 to 2003-04 and IndusInd Bank had high cumulative credit growth followed by low NPAs for 2000-01 and 2003-04. Some major observations can be made based on Table 2: Banks with high credit expansion followed by low NPAs are the ones with a good credit appraisal system in place and with ability to recover it. It may be possible for a bank to perform well in this sense for one year, but not consistently. Only HDFC Bank was able to perform this way over four years, that is, from 200001 to 2003-04. Jammu & Kashmir Bank and IDBI Bank have been in this category for three years. Banks with high credit expansion followed by high levels of NPAs cannot perform consistently and they invariably fall behind; it is an unsustainable approach. Banks such as Development Credit Bank fall in this category. Aggressive credit expansion along with non-recovery till 2001-02, forced it to substantially curtail its operations, ending up with low advance growth during 2003-04. Lord Krishna Bank has been in this category since 2001-02. Banks with low credit expansion and low NPAs adopt a cautious approach towards credit expansion. And those that consistently belong to this category have low growth in advances, despite low levels of NPAs.

As per Table 2, only State Bank of India has been in this category consistently. Perhaps, the credit market in India does not have the capacity to absorb the funds available. Sangli Bank, one of the old private sector banks, has been in this category for three years. Banks with comparatively larger balance-sheets, such as State Bank of Saurashtra and Bank of Baroda, were also members of this group for two years. As mentioned, banks with low credit growth and high NPAs are the ones to be monitored. These banks may have to review their credit assessment and monitoring systems. Based on the four years, the banks commonly in this group are Dena Bank, Ganesh Bank of Kurundwad and SBI Commercial & International. Further, for the last three years, Punjab & Sind Bank has been in this category. United Western Bank and erstwhile Global Trust Bank were in this category for two years. It is worth mentioning that United Western Bank had extended high credit despite having high NPAs during 1997-98 to 2000-01. The common perception that listing of a bank in the stock market improves quality of management may not be always correct, as illustrated in the Dena Bank, United Western Bank and Global Trust Bank cases. Also, ownership pattern does not necessarily have a bearing on performance of banks. Both private and government entities have appeared in the important categories discussed. To conclude, higher than average credit expansion can further strengthen banks if there is a good credit appraisal systems, strict recovery procedures and overall checks and balances by the top management.

3.7

Why assets become NPAs?

A several factors is responsible forever increasing size of NPAs in PSBs. The Indian banking industry has one of the highest percent of NPAs compared to

international levels. A few prominent reasons for assets becoming NPAs are as under: Poor credit appraisal system. Lack of vision/fore slightness while sanctioning/reviewing or enhancing credit limits. Lack of proper monitoring and follow up measures. Reckless advances to achieve the budgetary targets. Lack of sincere corporate culture. Inadequate legal provisions on foreclosure and bankruptcy. Change in economic policies/environment. Non transparent accounting policy and poor auditing practices. Lack of coordination between Banks/FIs. Directed lending to certain sectors. Failure on part of the promoters to bring in their portion of equity from their own sources or public issue due to market turning unfavourable. Abolition of license raj and tough competition in the liberalized Indian economy.

3.7 NPAs and Its Effects

NPAs are drag on profitability of Banks because besides provisioning, Banks are also required to meet the cost of funding these unproductive assets. NPAs reduce earning power of assets. Return on assets (ROA) also gets affected. NPAs carry risk weights of 100% (to the extent it is uncovered). Hence, they block capital for maintaining capital adequacy. As NPAs do not earn any income, they adversely affect capital adequacy ratio (CAR). No recycling of funds. NPAs also attract cost of capital for maintaining capital adequacy ratio. Capital cost involves dividend for Tier I capital and Interest for Tier II capital.

Carrying NPAs require incurring of cost of capital adequacy and cost of funds blocked in NPAs. PSBs are incurring around as high as 11% of their earnings as operating cost for monitoring and recovering NPAs every year.

NPAs demoralizes the operating staff. Regulatory and credit rating agencies abroad are also not comfortable with the high level of NPAs of Indian Banks. New Branch license are also not given to the Banks that have high level of NPAs.

3.5

What steps have been taken so far to solve NPAs Problems?

Banks need to have better credit appraisal systems so as to prevent new NPAs from occurring. However, once NPAs do come into existence, the problem can be solved only if there is enabling legal structure, since recovery of NPAs often requires litigation and court orders to recover stuck loans. With long-winded litigation in India, debt recovery takes very long time. Banks are now working on utilizing the services of Debt Recovery Tribunals to solve this problem. The government has also mooted the suggestion of an Asset Reconstruction Company, which will be specialized agency set up for rehabilitating revivable NPAs (say, salvaging projects which are inherently sound) and recovering funds out of unrevivable NPAs.

Other Strategies

 Fixing up of budgets for profits and recovery rather than for advances. Budget oriented approach, at times leads to release of credit facilities without ensuring compliance of covenants of sanction. A suitable mechanism could be drawn at each Bank level to provide monetary benefits/recognition to the operating staff particularly for recovery in NPAs/write off cases. Project with old technology should not be considered for finance. Large exposure on big corporate/single project should avoided. There is a need to shift in PSBs approach from collateral security to viability of the project and intrinsic strength of promoters. Upgradation of credit skills of the operating staff working in advances department. Timely sanction/release to avoid time and cost overruns.

3.8 A fresh look at Recovery Problem

Basically each branch engaged in lending has to plan for recovery of loans disbursed by it. The manager should be familiar with the prospects of recovery through internal and external factors. Knowledge about willful defaulters is equally important. Thus three pronged strategy is necessary.

(A) RECOVERY : INTERNAL SOURCES (a) Computation of demand

Guidelines suggest that repayment of installments of loans should be fixed in such manner, which will coincide with the harvesting of crops or sale of milk or any other farm output proposed to be produced through the bank loan. The demand for crop loans or for installment of term loans should therefore be computed in a manner conducive to the income flow.

(b) Appraisal of loan application and pre-sanction surveys

During the initial processing of the proposal, it has to be ensured that the repayment program for an item\equipment is fixed in accordance with the guidelines prescribed by R.B.I. Awareness about R.B.I. guidelines should be increased at the branch level.

(c) Recovery camps

The central idea of recovery camp is to bring a maximum number of persons together at one place and repay the loans. The recovery camps in addition to effecting recovery create a proper climate for recovery.

(d) Non-banking business day

This day should be utilized fully for field visits and contact with the borrowers

(e) Compromise proposals

In genuine cases, the banks can consider compromise proposal and a lot depends upon the initiative of the branch manager in utilizing this facility.

(f) Conversions/rescheduling of loans

There are guidelines for the operating staff of the banks for

conversion./rescheduling of loans in the areas affected by natural calamities. Crop loans can be made repayable over period of one year in the event of crop loss.

(g) Integration of recovery in branch budgeting

Recovery targets should be fixed at the time of settlement of branch business budget.

(B) RECOVERY: EXTERNAL SOURCES

Wherever the states have enacted laws on the pattern of the Talwar Model Bill, support of the government machinery can be enlisted accordingly. If the branches prepare village-wise action plans in this regard, it will be still appropriate for the agencies to have a concerted effort towards recovery. The branches may also compile detailed position of defaulters and share the same with the convener banks and government authorities periodically.

(C) TACKLING DEFAULTERS

To prevent willful default, comprehensive and discrete enquiries, therefore, should be made before disbursing loans to farmers. Some of the banks have already devised systems of maintaining village dossiers, which comprise names of farmers who do not have good reputation. A non-willful defaulter is one who generally follows a good cropping pattern and is co-operative to developmental functionaries. He generally cares for his own farming business. On the other hand, a willful defaulter has an attitude of non-co-operation to developmental functionaries. In present times, when willful default has gained social acceptability, the branches can initiate steps for devising schemes for giving recognition to good borrowers in various meetings or functions organized by the branches. Further the problems of good borrowers can be studied and their credit needs immediately met. By doing so, a culture of prompt repayment may develop in the villages and doing so would simultaneously discourage willful default.

TOOLS FOR MANAGING NPAs 1) HEALTH CODE SYSTEM The RBI introduced HCS in banks in 1985-86, This system provide the following information: Regarding the Health of individual advances. The quality of credit portfolio and The extent of doubtful or bad advances in relation to total advances. The RBI, since 1985, requires all commercial banks in India to provide information indicator the quality of individual advances in the following eight categories :

1) Satisfactory : Conduct is satisfactory the account of the borrowing firm is in order in all respect and its safety is not in doubt. 2) Irregular : Occasional irregularity is observed but the safety of the loan is not in question. 3) Sick Viable : Loan to sick units that are under nursing through the revival programmed. The units, though currently sick, are viable. 4) Sick Non Viable : The irregularities continue to persist and there are no immediate chances of accounts becoming regular. 5) Advances Recalled : Such loan accounts where repayment is highly doubtful and nursing is not considered worthwhile, in case of such advances decision is taken to recall them. 6) Suit Filed account : Loan account where the recovery proceedings have been initiated. 7) Decreed Debts : Loan accounts where the recovery proceeding have been completed. 8) Bad and Doubtful : Loan accounts where the recovery of dues debts has become doubtful on accounts of shortfall in value of security. The RBI has classified problem loans with the banks in three categories. (i) (ii) (iii) Advances classified as Bad and Doubtful by the bank [ Health Code No. 8] Advances where suits were filed/ decrees obtained. [HC No.6 & 7]. Those advances with Major undersirable features [HC No.4 & 5 ]. EVALUATION OF HCS Though the HCS provide for classification of assets it does not provide what action to take regarding the improvement of quality of such assets.

(a) Diversion of funds [as in 1 above] is the single most prominent reason.Moreover, reversionary trends developing during expansion/diversification phase and failure to raise capital/debt from public issue is also an important factor. (b) Internals factors [No.4 above] of business failure, inefficient management etc., are next important in the cretion of NPA. (c) External factors [No.3 above] are the next in importance, (d) Time/cost overrun during the project implementation stage leading to liquidity strain. (e) Other facors in their order of prominence are government policy changes,willful default, fraud etc. and lastly deficiencies on the part of banks in the form of delay in release of limits etc. 2) SETTLEMENT ADVISORY COMMITTEES: To tackle chronic NPAs in priority sector RBI had come out with a one time measure constitution of Settlement Advisory Committees (SACs) by banks. This was to promote compromise settlement in small sector viz., SSI small business including trades, agricultural and personal segments, Bankers need to appreciate the fact that compromise settlement is an effective and accepted non legal remedy for recovery in chronic NPA. According the scheme, applicable to NPA accounts which are at least 3 years old at 31-03-1999, was effective up to 30 sept. 2000. There is a case for extending the deadline and matching these guidelines applicable for compromise settlement in medium and large sectors.
EVALUATION ADVANTAGES TO BORROWER

1) Settling for a lower payout than the contracted one, scaling down of dues. 2) Releasing assets charged to the bank 3) Saving time, energy and expense on defending the inevitable legal case. 4) Keeping avenues of bank finance open for further development needs.

5) Restoring status/position in the market/society, avoiding stigma of being branded as a borrower who is litigant type.
ADVANTAGES TO THE BANK

1) Concept of time value of money i.e. a bird in hand is worth two in bush. The money realized early could be invested/lent to earn. 2) Realisation of securities is difficult stocks, machinery have high incidence of depreciation and obsolescence on taking possession, storage, safety thereof poses a problem and also involves cost for a longer period. Even in cases where court receiver/commissioner is appointed, assets do not realized fast value of mortgaged agricultural land properties located in rural, semi-urban areas is difficult to realize and no bidder comes forward when the property is put to auction. This is precisely the reason why many decrees obtained by the banks have merely remained on paper for want of effective execution thereof. 3) To maintain the image of development banker, compromises, which involve sacrifices, can be pursued only if both the parties to the settlement perceive latent gain in the process of bargain. 3) CORPORATE DEBT RESTRUCTURING (CDR) : A need was felt to create a special agency to facilitate debt restructuring because there has been some hesitancy on the part of banks and financial institutions to implement RBI guidelines on debt restructuring. Recently a three-tier body, viz., CDR has been set up to coordinate corporate debt restructuring programme. It is yet to be operationalised CDR consists of Forum, group and Cell. While the forum evolves broad policy-guidelines the group takes decisions on the proposals recommended by the Cell. Initially the borrower approaches his Lead Bank/ FI with a request to restructure debt, which in then puts up the proposal to the cell. The CDR covers only multiple banking accounts enjoying credit facilities exceeding Rs. 20 crore. Cases of DRT BIFR and willful defaults, doubtful and loss accounts and

suit filed cases are outside the purview of the CDR. Thus, standard and Substandard accounts are only eligible to seek CDR Shelter. If 75% of the secured creditors agree to the rehabitation plan, it is lending on the other banks/FIs. The CDR is a voluntary system on debtor creditor agreement and inter-creditors agreement. No banker/ borrower can take recourse to any legal action during the stand-still period of 90-180 days. Lastly CDR will observe the RBI Guidelines on Debt Restructuring issued in March 2001. While the arrangements under CDR seem to be feasible from the debt restructuring perspective, its success depends upon the cooperation extended by borrowers and bankers, on one hand, and understanding among banks and FIs on the other. Doubts are raised about the implementation of these agreements taking into the present working of the loan consortium arrangement. CDR though is not directly linked with NPA recovery, is aiming at preserving viable corporate affected by certain internal and external factors, and minimizing the losses to the creditors and other stakeholders through a restructuring programme. Even though the CDR system will be applicable only to standard and sub-standard accounts potentially viable cases of NPA, are also to get priority.
EVALUATION :

The mechanism will be more effective if accepted by 75 % of term lending institution and 75 % of bank, which provide working capital instead of 75 % of total lenders. (4) LOKADALATS These are voluntary agencies created by the state government to assist in matter of loan compromise cases involving an amount upto Rs. 5 lakhs may be referred Lok Adalat. The scheme includes all NPA a/cs. Both suit filed and mensuit filled MCS Lokadalats meet at different places for the convenience if banks and borrowers on the given date of the lokadalats meeting, both the banker and borrower should be

present. After looking into the evidence and listening to both parties, the lokadalats works out an acceptable compromise. Thereafter, lokadalat issues a recover certificate, which will enable the bank in obtaining decree from the concerned court. This arrangement shortens the period in obtaining a court decree, which is normally awarded after taking a much longer period. Along with this, efforts should be made to give wide publicity to the scheme, besides educating both banks and borrowers about Lokadalats. EVALUATION

Merits There are no court fees involved when fresh disputes are referred to it. It can take cognizance of any existing suit in the court as well as look into and adjudicate upon fresh dispute If no settlement is arrived at the parties can continue with the court proceedings Its decree has legal status and is binding. In view of this unique advantage the government is thinking of strengthening them and raising the monetary limit set for referred cases

Demerits It is observed that banks have not taken adequate advantage of Lokadalats for compromise settlement of their NPAs No cut off date is suggested since Lokadalat is an on going process. But this may contribute to increasing delays in settlement of cases. Most Lokadalats should be set up in different parts of country to set up the recovery procedures. (5) DEBT RECOVERY TRIBUNALS

The MOF has taken a number of steps to strengthen the DRTs. Banks and FIs now can nominate one nodal officer for each DRP. There is a suggestion for setting up co-ordination committees for DRTs a Debt Recovery Appelate Tribunal with representations from major banks and financial institutions. In the context of recovery from NPAs, DRTs are assuming great importance since efforts are to set up mere DRTs during this year and also to strengthen them. Though the recovery through DRTs is at present less than two percent of the claim amount, banks FIs have to depend heavily on them, efforts are as to amend the recovery Act to assign more power to DRT. More importantly, the borrowers tendency to challenge the verdict of the Appellate tribunal in the High court to seek natural justice needs to be checked. Otherwise, early recovery efforts through DRTs would be futile. Secondly, training of residing officers of Tribunals about the intricacies of banking practices is very essential. Further, the number of Recovery officer has to be enhanced in every DRT for effective recovery. Finally, banker and FIs have to come forward to provide liberal help to DRTs to equip them in terms of infrastructure, manpower,etc. It has been announced in the Union Budget for 2001-02 that the Govt. has decided to set up 7 more DRTs during 2001-02 in addition to the existing 22 DRTs, 5 Appellate Tribunals to facilitate bank to quickly recover their dues from borrowers. Besides, the Govt. has proposed to bring in legislation for facilitating foreclosure and enforcement of securities in case o default so as to enable banks and financial institutions to realize their dues. EVALUATION 11 new DRTs are being opened over the last 2 years 7 more DRTs are in pipeline DRTs are facing an uphill task with the number of cases The amount involved is increasing at alarming rate in the value of burgeoning NPA. The cases involving Rs. 7705.32 crore are still pending. In Mumbai DRTs

out of the total amount of Rs. 1677.60 crore involved only Rs. 397.43 crore was recovered. There is a huge demand supply mismatch among the DRTs. The requirement is far higher than the number of DRTs available. The number of settlement cases is high in Mumbai and there are shortage of man power in Mumbai DRTs. The RBI guidelines, which stipulates that apresiding officer in a DRT cannot settle more than 800 cases in a year, constraints the operations of DRTs. There is inadequacy of trained staff and their lack of exposure to the judicial system acts as a hindrance. There needs speeding up of recovery procedures. 6) CIRCULATION OF INFORMATION ON DEFAULTERS The RBI has put in place a system for periodical circulation of details of willful defaults of borrowers of banks and financial institutions. This serves as a caution list while considering requests for new or additional credit limits from defaulting borrowing units and also from the directors /proprietors / partners of these entities. RBI also publishes a list of borrowers (with outstanding aggregating Rs. 1 crore and above) against whom suits have been filed by banks and FIs for recovery of their funds, as on 31st March every year. It is our experience that these measures had not contributed to any perceptible recoveries from the defaulting entities. However, they serve as negative basket of steps shutting off fresh loans to these defaulters. I strongly believe that a real breakthrough can come only if there is a change in the repayment psyche of the Indian borrowers. 7) RECOVERY ACTION AGAINST LARGE NPAS After a review of pendency in regard to NPAs by the Hon'ble Finance Minister, RBI had advised the public sector banks to examine all cases of willful default of Rs 1 crore and above and file suits in such cases, and file criminal cases in regard to willful defaults. Board of Directors are required to review NPA accounts of Rs.1 crore and above with special reference to fixing of staff accountability.

On their part RBI and the Government are contemplating several supporting measures including legal reforms, some of them I would like to highlight. 8) ASSET RECONSTRUCTION COMPANY: An Asset Reconstruction Company with an authorised capital of Rs.2000 crore and initial paid up capital Rs.1400 crore is to be set up as a trust for undertaking activities relating to asset reconstruction. It would negotiate with banks and financial institutions for acquiring distressed assets and develop markets for such assets.. Government of India proposes to go in for legal reforms to facilitate the functioning of ARC mechanism. EVALUATION The ARCs will assist in cleansing the Balance Sheet of the weaker as well as potential weak banks. It will also try to identify possible conceptual glitches and legal infirmities in the arrangement. It is to be noted that given the inadequacies of SICA, BIFR, DRTs foreclosures and other recovery processes, an ARC may find it difficult to lead a viable existence. Therefore, simultaneously it is required to make radical changes in bankruptcy and recovery laws and procedures. Under this scheme the banks liabilities will get transferred from one bank to another. The total liability to the banking system would remain unchanged. 9) CREDIT INFORMATION BUREAU Institutionalisation of information sharing arrangements through the newly formed Credit Information Bureau of India Ltd. (CIBIL) is under way. RBI is considering the recommendations of the S.R.Iyer Group (Chairman of CIBIL) to operationalise the scheme of information dissemination on defaults to the financial system. The main recommendations of the Group include dissemination of information relating to suit-filed accounts regardless of the amount claimed in the suit or amount of credit granted by a credit institution as also such irregular accounts where the

borrower has given consent for disclosure. This, I hope, would prevent those who take advantage of lack of system of information sharing amongst lending institutions to borrow large amounts against same assets and property, which had in no small measure contributed to the incremental NPAs of banks. 10) PROPOSED GUIDELINES ON WILLFUL DEFAULTS/DIVERSION OF FUNDS RBI is examining the recommendation of Kohli Group on willful defaulters. It is working out a proper definition covering such classes of defaulters so that credit denials to this group of borrowers can be made effective and criminal prosecution can be made demonstrative against willful defaulters. 11) CORPORATE GOVERNANCE A Consultative Group under the chairmanship of Dr. A.S. Ganguly was set up by the Reserve Bank to review the supervisory role of Boards of banks and financial institutions and to obtain feedback on the functioning of the Boards vis--vis compliance, transparency, disclosures, audit committees etc. and make recommendations for making the role of Board of Directors more effective with a view to minimizing risks and over-exposure. The Group is finalizing its recommendations shortly and may come out with guidelines for effective control and supervision by bank boards over credit management and NPA prevention measures. The report of the group is now published and discussed in another page. 12) SPECIAL MENTION ACCOUNTS - ADDITIONAL PRECAUTION AT THE OPERATING LEVEL In a recent circular, RBI has suggested to the banks to have a new asset category `special mention accounts' - for early identification of bad debts. This would be strictly for internal monitoring. Loans and advances overdue for less than one quarter and two quarters would come under this category. Data regarding such accounts will have to be submitted by banks to RBI.

However, special mention assets would not require provisioning, as they are not classified as NPAs. Nor are these proposed to be brought under regulatory oversight and prudential reporting immediately. The step is mainly with a view to alerting management to the prospects of such an account turning bad, and thus taking preventive action well in time. An asset may be transferred to this category once the earliest signs of sickness/irregularities are identified. This will help banks look at accounts with potential problems in a focused manner right from the onset of the problem, so that monitoring and remedial actions can be more effective. Once these accounts are categorised and reported as such, proper top management attention would also be ensured. Borrowers having genuine problems due to temporary mismatch in funds flow or sudden requirements of additional funds may be entertained at the branch level, and for this purpose a special limit to tide over such contingencies may be built into the sanction process itself. This will prevent the need to route the additional funding request through the controlling offices in deserving cases, and help avert many accounts slipping into NPA category. Introducing a `special mention' category as part of RBI's `Income Recognition and Asset Classification norms' (IRAC norms) would be considered in due course.

13) ONE TIME SETTLEMENT POLICY (OTS) : INTRODUCTION: The Corporation has been providing financial assistance to small and medium scale units. While sufficient precaution is being taken at the time of appraisal of projects, disbursement of loans and follow-up, yet some projects fail to generate adequate resources to repay dues and lead to defaults. Some of these units can be revived and rehabilitated with need base relief and concessions by the Corporation. However, at times, units are not in a position to revive due to, long term problems and structural deficiencies. It would be appropriate for

Corporation to find an exit route as early as possible. Compromise/ One Time Settlement has been found to be an effective tool of recovery in such stressed cases. (1) O.T.S. POLICY- AN OVERVIEW (a) A comprehensive policy of One Time Settlement was approved by the Board of Directors in March, 1999 and the same was implemented by Corporation with effect from 1st April, 1999 vide circular No.A-1 dated 31st March,1999, which contained detailed guidelines and formats. The main purpose of the policy was to liquidate NPAs in time bound manner, which had grown to Rs.597 Crores, and was constituting 45.56% of the total loan outstanding of Corporation. Subsequently, a need was felt to revise the policy based on the feed back received from the field functionaries and in order to further accelerate the pace of reduction in NPAs through compromise/ settlement. The policy did not have the provisions for settlement especially in the cases where disbursement was made after 31st March 1995. A revised OTS policy was considered and approved by the Board of Directors in its meeting held on 15th September 2001. The duly approved OTS policy was implemented by the Corporation vide Circular No.37/ 2001-02 dated 9th October, 2001. (b) The performance of Corporation in liquidation of NPAs through negotiated/ one time settlement is given hereunder : -

(2) OBJECTIVE OF NEW OTS POLICY : i. The revised policy is designed to provide an effective frame work to tackle old and more chronic cases of D-2 and Loss assets categories, which have been the growing cause of concern for the Corporation. ii. The total NPAs inD-1, D-2 and Loss assets categories are Rs.589.13 Crores, therefore, the target of settling cases of Rs.150 Crores per year for next three years would be the main objective of this OTS policy. iii. The criteria/ basis of calculation of OTS amount in old and chronic cases of D-1, D-2 Assets categories have been revised to encourage the staff to settle more cases under OTS than sale U/s 29 of the SFCs' Act.,. This will considerably reduce the fresh accretion of loss assets, which have shown an increasing trend in last 2 years. iv. The revised policy will provide an effective tool to settle large number of cases under OTS with special emphasis on settling cases which are in possession of the Corporation for more than 5 years. v. The operational procedure have been streamlined to remove unnecessary hassles and delays in settling cases. The policy provides more delegation of power to operating staff and to bring transparency in decision making at all levels.

CHAPTER FOUR SURVEY RESULTS AND ANALYSIS

SECONDARY DATA SURVEY AND RESULTS

1. Time taken by Banks in Gujarat to sanction loans after receipt of application. Nearly 10 % of the banks in Gujarat responded within a month for loan applications received by them form their corporate clients. Among the banks surveyed in Gujarat area it was found that for most of the private banks time taken to service their corporate clients was about 15 to 30 days within the receipt of the application. However this time duration varied from case to case basis for these banks depending on factors like: Board Meetings Amount of the advance Receipt of necessary papers Data submitted

10 8 6 4 2 0 less than 15 days 15-30 days 1-3 months 3-6 Did not months respond Series1

less than 15 days 1

15-30 days 9

1-3 months 6

3-6 months 1

Did not respond 4

Time

2. Banks perform appraisal of the proposals from the point of view of recovery even before sanctioning the loan. It was found that as far as the Banks in Gujarat region were considered about 67% of these used to appraise loan proposals from their corporate clients with the viewpoint of recovery. The remaining banks considered this to be a negative approach. Similarly when a bank extends loan to its clients it doesnt expect them to default on it.

16 14 12 10 8 6 4 2 0 Yes No Can't say

Series1

Yes 14

No 5

Can't say 2 Ahmedabad

3.

Manner in which banks appraise the proposals before sanctioning the loans.

Here it was aimed to know the ways in way the bankers appraise the proposal from the standpoint of recovery. This holds much significance from the fact that if loan proposals are scrutinized properly before sanctioning the loan then the incidence of loans turning bad can be taken care of and preventive measures can be taken from the very beginning. In Gujarat bankers appraise the loan before sanctioning them by looking at the financial capacity of the borrower or performance of the business and its future prospects along with looking to the generation of resources and availability of surpluses to meet the liability. The other considerations are as under: 2. Stipulating conditions to ensure recovery like taking liquid securities, escrow on receivable, maintaining debt-servicing reserves in a bank account. 3. Credit investigation about borrowers. 4. The people behind the project, their track record, collateral security available, personal guarantee, etc.

5. Response to critical evaluation of application. The loan application is the primary document, which intends to create a formal relationship between the bank and the corporate applicant. This was amply shown by the survey results. In Gujarat region it was found that about 62% of the bankers opined that there was a need to evaluate the loan applications critically.

14 12 10 8 6 4 2 0 Yes No Can't say

Series1

Yes 13

No 6

Can't say 2 Ahmedabad

5. Suggestions regarding evaluation of application by respondents A loan application establishes a formal relationship of the client with the bank. Hence a loan application is of utmost importance for the banks as well as the clients since the application is the borrowers s representation made to the banks for an advance. In Gujarat the respondents felt that an in depth study of the application is absolutely necessary. They believed that the following should be necessarily looked into the while evaluating the applications.

Technical and Economic Viability of the project. Verification of the credentials of the applicant. Comparing inter firm reports. Studying industrial trends, market report, reports from CRISIL, CARE, CMIE and evaluating the firms Balance Sheet.

6. Ranking of factors considered while sanctioning the loan This question was aimed at finding out the significance of each factor while sanctioning any loan or advance. The respondents were asked to rank the parameters in order of importance in ascending order. To arrive at a conclusion we had assigned the highest weight to highest rank i.e. 10 weight points to rank 1, 9 weight points to rank 2 and so on. The product of weight and rank of each factor were added up to find out the cumulative weight of each factor. The highest cumulative weight point indicates the factor being perceived by the respondents as most important while considering the loan application. Further, the average weight points of each parameter were also found out. Higher mean point depicts the more weightage attached to that particular factor. In Gujarat, the respondents assigned highest weight to companys current performance and the second highest was assigned to companys past performance. However, for new ventures many bankers responded that the character & credibility of the promoters has been an important criterion for sanctioning any loan or advance. Apart from the factors stated in the table the respondents gave consideration to these factors also while sanctioning loan. Attitude of borrowers Production capacity of plant SWOT analysis of the company Companys commitment to banks requirements. Technical & Financial feasibility Past experience of promoters

 Credit risk involved.

Gujarat
RANKS Total FACTORS Companys Current Performance Documents Market Conditions Past Performances Previous Repayments Primary Security References Statutory Requirements Weights 1 1 1 1 3 3 0 1 3 2 1 0 2 4 1 2 6 4 3 0 0 9 3 4 4 2 2 0 2 7 5 2 3 5 2 2 2 1 0 1 8 7 5 6 1 0 2 4 6 0 0 2 3 2 2 5 3 1 2 5 6 5 7 0 8 0 4 0 2 3 2 4 8 0 3 0 0 0 4 4 4 3 9 0 0 0 0 1 0 2 0 2 Weight 198 108 149 164 125 124 104 84 Average Weight 9.43 5.14 7.10 7.81 5.95 5.90 4.95 4.00

7. Average time period in a year taken by banks to recover advances after maturity The recovery exercise for the banks arises when their clients do not pay their dues in time. Around 10% of the banks in Gujarat recovered their dues on time from their corporate clients after maturity. Around 19% of the banks took less than fifteen days; about 29% of the banks took fifteen to thirty days and nearly 24% of the banks needed more than thirty days to recover their dues in Gujarat region. Few of the bankers were unable to give a time frame for such a recovery. They believed that such a recovery might vary from case to case. In fact one of the private banker was of the opinion that in case of any kind of litigation the recovery will take not less than two to three years.

ahmedabad 8 6 4 2 0 on line within 15 days 15-30 days more than 30 days did not specify ahmedabad

on line

within 15 days

15-30 days

more than 30 days

did not specify

Ahmedabad

8. Problems faced by banks in recovering the loans/ advances In Gujarat around 90% banks pointed out that the basic problem faced by them in recovering loans/advances from their clients was pertaining to unwillingness and inability on part of their clients. They attributed this to the company position and market conditions, which may not be favorable. Apart from these two, other problems faced by them are natural calamities like drought, floods, earthquake etc., which were beyond their control and hampering the borrowers paying capacity, legal constraints which adversely affecting the recovery efforts of banks.

Ahmedabad 20 15 10 5 0 others Inability Natural Political/ot her influences Bureaucra cy Unwillingn ess Laws of land/legal constraint

Ahmedabad

others Ahmedabad 5

Laws of land/legal constraints 8

Natural 9

Political/other influences 4

Bureaucracy 5

Inability 18

Unwillingness 18

9. Average annual percentage of loan defaults This refers to the average number of cases of defaults in a given year and not the amount of default in all cases. In Gujarat around 25% instances of defaults each were found to be between 5-10% and 10-20%. In 20% cases, the default instances were less than 5%.

Ahmedabad 6 5 4 3 2 1 0
10 % 20 % 30 % M or e O th er s Le ss 5%

Ahmedabad

Ahmedabad

Less 4

5%5

10%5

20%2

30%1

More 0

Others 4

10. Corrective measures taken in case of defaults It is pertinent to note here that the banks do not take only one action but they use a blend of two or more actions. In Gujarat the most preferred measures were persuasion and legal action. Though it seems that legal action is the most preferred one, but banks take recourse of this tool as a last resort when other measures like compromise, intervention, assistance & awareness fail to bring out the desired results. This is due to the sluggish, inefficient, time consuming, expensive and sometimes futile legal system.

Gujarat 20 15 10 5 0
Pe rs u Le asio ga n la ct Co io m n pr om in ise te rv en t io As n si st an ce Aw ar en es s O th er s

Gujarat

Gujarat

Persuasion 18

Legal action 18

Compromise 17

intervention 8

Assistance 10

Awareness 8

Others 1

11 Responses related to synchronization of evaluation, sanctioning and recovery of advances in the system This question was design to understand the structural and system arrangements in the organization that was assigned the task of recovery management. It indicates how the organization is geared to tackle the problem of recovery of its advances if it encounters any. The level of synchronization of the system in evaluation, sanctioning and recovery of advances in the organization shows the consistency existing in the organization with regard to recovery management. In Gujarat it was found that in around 75% instances of the banks the entire system was synchronized with respect to evaluation, sanctioning and evaluation of advances made.

Ahmedabad 20 15 10 5 0 Yes No Can't say Ahmedabad

Ahmedabad

Yes 15

No 5

Can't say 1

12. Responses showing satisfaction with the organizations recovery procedure. This question intended at eliciting the respondents opinion whether they considered the organizations recovery procedure system satisfactory or not. Since this was a tricky question the respondents were not much forthcoming about their responses. Coincidentally it was found that around 40% of the respondents were frank enough to admit that they were not satisfied with their organizations recovery procedure and the way the entire machinery functioned.

Ahmedabad 15 10 5 0 Yes No Did not respond Ahmedabad

Ahmedabad

Yes 12

No 8

Did not respond 0

13. Suggestions to improve the recovery system The most common suggestion received for improving the recovery system in Gujarat was regarding improving the judicial system and delegating more power and autonomy to the banks. Apart from these the other suggestions received were: The defaulters should be declared insolvent. Strengthening of DRTs and speedy disposal of cases for default filed. The banks should be strengthened to realize the immovable properties mortgaged with them. Change in the existing laws and rules. Banks should make a list of defaulters and mutually agree among themselves not to finance defaulters of other banks directly or indirectly

PRIMARY DATA
Gross and Net NPAs of Public Sector Banks (As a percentage of Advances)
Name of the Bank Nationalised Banks
Allahabad Bank 20.09 19.07 17.66 16.94 13.65 12.54 Andhra Bank 9.42 7.85 6.13 5.26 4.89 4.26 Bank Of Baroda 16.03 14.73 14.11 12.39 11.02 7.70 Bank Of India 11.87 12.89 10.25 9.37 8.55 7.29 Bank Of Maharashtra 15.97 12.65 12.35 10.44 9.55 8.72 Canara Bank 18.32 9.60 7.48 6.22 5.96 7.09 Central Bank Of India 17.41 16.63 16.06 14.70 13.06 9.79 Corporation Bank 5.66 5.39 5.40 5.19 5.27 1.98 Dena Bank 12.37 18.17 25.31 24.11 17.86 7.67 Indian Bank 38.70 32.77 21.76 17.86 12.39 21.67 Indian Overseas Bank 13.32 13.18 11.81 11.35 10.29 7.30 Oriental Bank Of Commerce 6.30 5.54 5.21 6.57 6.94 4.50 Punjab & Sind Bank 23.01 15.27 18.45 18.19 19.25 10.48 Punjab National Bank 14.12 13.19 11.71 11.38 11.58 8.96 Syndicate Bank 10.72 7.74 7.87 8.35 8.32 3.93 UCO Bank 22.55 18.79 11.64 9.59 8.24 10.83 Union Bank Of India 12.41 12.27 11.20 10.77 8.96 8.70 United Bank Of India 32.38 27.63 21.51 16.16 12.15 15.06 Vijaya Bank 13.65 11.52 10.00 9.39 6.18 6.72 State Bank Of India Group State Bank Of India 15.56 14.25 12.93 11.95 7.18 7.18 State Bank Of Bikaner 11.11 16.18 12.91 9.36 10.45 10.45 State Bank Of Hyderabad 15.94 14.18 14.08 10.08 8.78 8.78 State Bank Of Indore 14.68 10.80 9.16 7.18 10.10 10.10 State Bank Of Mysore 16.96 13.89 12.83 12.07 10.55 10.55 State Bank Of Patiala 13.98 0.99 9.66 6.94 8.23 8.23 State Bank Of Saurashtra 15.43 13.71 14.57 10.18 7.69 7.69 State Bank Of Travancore 18.46 14.43 11.38 9.41 10.80 10.80 Public Sector Banks 15.89 13.98 12.37 11.09 8.13 8.13 Source: Report on Trend and Progress of Banking in India, RBI, 2001-2002 and 2002-2003 12.17 3.47 6.95 8.61 6.97 5.28 9.84 1.91 13.81 16.18 7.65 3.61 9.40 8.52 3.17 8.75 7.97 12.85 6.62 6.41 10.14 7.30 7.55 8.12 6.09 7.86 8.80 7.42 11.21 2.95 6.77 6.72 7.41 4.84 9.72 1.98 18.29 10.07 7.01 3.59 12.27 6.69 4.07 6.30 6.86 10.47 6.22 6.03 7.83 7.83 5.91 7.88 4.92 6.87 7.75 6.74 10.55 2.45 5.68 6.01 5.81 3.89 7.98 2.31 16.31 8.28 6.32 3.21 11.68 5.27 4.53 5.65 6.26 7.94 6.02 5.64 5.77 4.96 3.58 7.36 2.94 4.95 5.72 5.82 7.07 1.79 4.81 5.59 4.83 3.59 6.74 1.65 11.82 6.15 5.23 1.44 10.85 3.80 4.29 4.38 4.91 5.52 2.61 4.49 4.16 3.26 2.66 5.19 1.49 3.53 3.05 4.54

Gross NPAs/Gross Advances

1999 2000 2001 2002 2003 1999

Net NPAs / Net Advances

2000 2001 2002 2003

Gross and Net NPAs as a Percentage of Advances

Knowing loan losses is very important from financial performance. Avoidance of loan losses is one of the pre-occupation of management of banks. Complete collection or complete elimination of such losses is not possible, but there is a possibility of keeping these losses at low level. In fact, it is the level of NPAs that to a great extent differentiate between good and bad bank. Dena Bank and Punjab & Sind Bank have registered high net

NPAs 11.82 % and 10.85 % respectively. Whereas Oriental Bank of Commerce, State Bank of Patiyala, Corporation Bank, Andhra Bank, Vijaya Bank, State Bank of Indore, State Bank of Hyderabad, State Bank Of Saurashtra, Canara Bank, Punjab National Bank, Syndicate Bank, UCO Bank, Bank of Baroda, and Bank of Maharshtra have recorded their low NPAs 1.44, 1.49, 1.65, 1.79, 2.61, 2.66, 3.26, 3.53, 3.59, 3.80, 4.29, 4.38, 4.81 and 4.83 percent respectively. Over the five-year study period all most all the public sector banks reduced their gross NPAs to gross advances and net NPAs as percentage to net advances. The same was the case in the above discussion. The gross NPAs and net NPAs have declined from 15.89 and 8.13 in 1999 to 9.36 and 4.54 % respectively.

Table No. I NPA Statistics -All Scheduled Commercial Banks .............. (Amount in Crores) Year
1997-98 1998-99 1999-2000 2000-2001 2001-2002

Total Advances

Gross NPA

Net Advances

Net NPA

%-age of %-age of Gross Net NPA to total NPA to net advances advances

352697 399496 475113 558766 680958

50815 58722 60408 63883 70904

325522 25734 367012 27892 444292 30211 526329 32632 645859 35546

14.4 14.7 12.7 11.4 10.4

7.3 7.6 6.8 6.2 5.5

Table -2 : NPA of PSBs (Amount in Crores) Year

1996-97 1997-98 1998-99 1999-2000 2000-2001 2002-2003

Total Advances Gross NPA Net NPA

%-age of %-age of Net Gross NPA to net NPA to total advances advances 17.8 % 16.0 % 15.9 % 14.00 % 12.39 % 11.06% 9.2 % 8.2 % 8.1 % 7.9% 6.74% 5.81%

244214 284971 325328 380077 442134 509368

43577 45563 51710 53033 54773 56507

20285 21232 24211 26188 27967 27958

It can be seen from the above Tables (Table-1 and Table-2) that the gross NPAs of scheduled commercial banks stood at Rs. 70704 crores as on March 31, 2002 as compared with Rs. 63741 crores at the end of March 2001. The gross NPAs for March 2002 includes an amount of Rs. 4512 crores on account of merger. For public sector banks, gross NPAs stood at Rs. 56507 crores as at the end of March 2002, comprising 79.7 % of the sticky loans of all scheduled commercial banks. However, there was a perceptible decline in the ratio of gross NPAs and net NPAs, measured as percentage to advances as well as assets. The gross NPAs of Public Sector banks as at the end of March 2002 at Rs. 56507 crores witnessed an increase of 3.4 % over the previous year. The ratio of gross NPAs to gross advances of public sector banks witnessed a sharp decline from 12.4 % in March 2001 to 11.1 % in March 2002.

Table -3: NPA of State Bank Group.. (Amount in Crores) Year

1997-98 118959 1999-2000 2000-2001

Total Advances 113360 18641 129253 150390

Gross NPA 15522

Net NPA

%-age of %-age of Gross Net NPA to NPA to net total advances advances 6.98 %

6829 14.57% 7.74 %

7764 15.67 19773 20586

7411 14.08 % 8125 12.73 %

6.77 % 6.26 %

It can be seen from above Table-3 that there is continuous decline in percentage of NPA, Total advance of State Bank Group was stood at 150390 crores as on 2000-2001 with compare to 113360 crores as on 1997-98 and Gross NPA had increased form 15522 crores as on 1997-98 to 20586 crores as on 2000-2001. Net NPA also increased from 6829 crores in 1997-98 to 8125 crores in 2000-2001 but there is continuous decline in percentage of NPA which is declined from 6.98 % as on 1997-98 to 6.26 % as on 2000-2001.

Table -4: NPA of Nationalised Banks. (Amount in Crores) Year

1997-98 1998-99 1999-2000 2000-2001

Total Advances 166222 188926 224818 264237

Gross NPA 30130 33069 33521 34609

%-age of %-age of Gross Net Net NPA NPA to NPA to net total advances advances 14441 15759 17399 16096 16.88 16.02 13.99 12.19 8.91 8.35 7.80 7.01

The same situation is also there in Nationalised banks, percentage of Net NPA to net advances is declining year to year like it was 8.91 % in 1997-98 than 8.35 % in 1998-99 than 7.80 % in 1999-2000 and than 7.01 % in 2000-2001. Total advances stood at 264237 crores as on 2000-2001 as compared to 166222 crores as on 1997-98 and Gross NPA also goes on increasing from 30130 crores as on 1997-98 to 34609 crores as on 2000-2001 but Net NPA goes on declining year to year. Net NPA was 14441 crores as on 1997-98 to 17399 crores as on 1999-2000 and 16096 crores as on 2000-2001.

Table 5 NPA Statistics of the three Major Term Lending Institutions as at 31.03.2001. (Amount in Crores)
Name of FI

Total Loans Total Loans NPA 31.3.2000 31.3.2001 31.3.2000

NPA-% age NPA 31.3.2000 31.3.2001

NPA-% age 31.3.2001

IDBI ICICI IFCI

57099 52341 19841

56477 57507 18715

7665 3959 4103

13.4 07.6 20.7

8363 2782 3897

13.9 05.2 20.8

As seen from the above table that ICICI is best at debt recovery because it is having least percentage of NPA in 2000 and 2001 i.e. 7.6 % and 5.2 % respectively. There is not much difference in amount of total loans by IDBI or ICICI but Net NPA is much more in IDBI than ICICI, as we can see that in 2001 Total Loans provided by IDBI is 57099 crores and by ICICI is 52341 crores and in 2001 Total Loans provided by IDBI is 56477 crores and by ICICI is 57507 but Net NPA of IDBI is 7665 crores in 2000 and 8363 crores in 2001 and Net NPA of ICICI is 3959 crores in 2000 and 2782 crores in 2001. And IFCI is having the highest percentage of NPA in 2000 as well as in 2001 i.e. 20.7 % and 20.8 % respectively.

CHAPTER FIVE RECOMMENDATION AND SUGGESTION

SUGGESTIONS

1. Slippage management. 2. Increase the proportion of Non fund based activities. 3. Turnaround strategies for loss making banks. Management of deposits. Management of advances. 4. ABC Analysis of overdues. 5. Adoption of U.S. GAAP Norms. 6. Credit Risk Management. 7. Takeover of NPAs by NRI investors. 8. Credit Derivatives. 9. Legal Recourse. 10. Circulation of list of defaulters. 11. Credit Appraisals & Credit Audit. 12. Focus on financial infrastructure. 13. Factoring. 14. Credit Information Bureau. 15. Non Legal measures.

Suggestions
Is evaluating Indian Banks performance a rather straightforward issue? The answer is an absolute No. The Banks performance can judge from the following parameters. Behaviour of their stock prices. NPAs. C/D Ratios ROIC ROCE P/E Ratio ROE Book Value RONW. These parameters can be applied after the bank has posted its financial performance & hence are not preventive or proactive measures. As the traditional tools of NPA management have not proved to be satisfactory on the parameters of credit monitoring, follow up procedures,preventing an assest from becoming non performing as well as timely settlement & recovery of non performing loans, an attempt is made to bring out some untraditional techniques as well as to reengineer the existing practices and improving them so as to bring the performance of Indian Banks in tune with the international practices. 1. SLIPPAGE MANAGEMENT

A) Process of Slippage
Any performing assest does not turn into non-performing overnight. The Performing Asset passes through a relatively lengthier period of 2 quarters, in some cases seven-months ,after becoming due but before slipping down to the dangerous red band of non performing assets. During this journey, every asset is

giving out certain signals for warning the banker that something bad is about to happen.

B) Slippage signals.
Depending upon the type of credit facility and nature of business these distress signals may look like:

Non Payment of the very first installment in case of term loans. Non-submission of stock statements in time. Cheques drawn on the account are bouncing. Credits into the cash credit account are not sufficient to meet the debits in
the account.

The overdue bill is lying unpaid; Installments are irregular. Amount paid is not fully covering the principal and interest debited. No regular operations in the cash credit account. Bank has information that party is not doing the business; Post-sanction inspection report speaks of diversion and misutilization; There has been a natural calamity in the borrowers village. C) How to act on the Slippage Signals ?
Once there signals start to come in, the banker is supposed to act immediately. There is no point in waiting with the feeling that there are few more months for the 2 quarter cut-off and things may turn all right before that, Any symptom unattended would lead to major complications. Steps taken at the initial stage itself would help to keep the accounts performing and the costly slippage would never happen. The NPA reduction techniques like rephasement ; nursing may be attempted while the accounts are still in the performing basket by continuous monitoring of the individual assets. This type of constant & continuous surveillance requires cooperation & attention from all concerned in a branch. Any one-shot measure like

recover camps can at best be of supplementary native and may never be a permanent solution.

D) Journey from NPA to PA

While the journey, from the 6-month bottom but within the PA basket- to the top would be easier it would certainly be costly, difficult and time consuming form of NPA to PA. This uphill task usually is very difficult and such assets cannot be brought back to the PA basket immediately; there needs to be an isolation period of one year after which only the asset will become eligible for classification under PA category. During this critical period it has to perform continuously. This is like a patient who has been admitted to the intensive care unit (ICU) is not sent back home immediately after bringing him out of ICU; he will be kept in the noncritical area for further observation, before his final discharge. Hence, the action before Slippage assumes further significance in cases of bringing back the NPA to PA.

E) What if Slippage Management Fails ?

Even after careful management of assets before Slippage, if some assets cross the band to become NPA, then there is no other alternative except to arrange for firefighting. This post-incidence measure, again, needs to be undertaken on war footing. It will not be prudent to wait any further at this stage as any time lag is going to cost the bank very dearly because some of these assets may become doubtful inviting a more provisioning. 2. INCREASED PROPORTION OF NON-FUND BASED BUSINESS When deregulation is thinning the margins, it is necessary to go in for non-fund based business, which will increase the non-interest income of the branch. Nonfund based business involves no fund at all but a good service and a marketing strategy to capture the customers is needed. It also helps the branch in promoting

fund-based business. Non-fund based business activities generally include following services. (a) Safe custody of customers valuables (b) Issuing letters of credit/guarantee (c) Remittance of funds: Mail transfer (d) Credit card related service (e) Gift cheques/ Travelers cheques (f) Locker service There are other services also like underwriting, guarantee, merchant banking and other agency services, etc. but for small branches and rural branches increase in volume of these facilities can boost their profile. The problem is that the rural people are not aware of these services but by creating awareness the branch can reap the benefit. At present the non-interest income of the rural branches forms a very insignificant proportion of total income. This can be increased with little efforts. 3. TURNAROUND STRATEGIES FOR LOSS MAKING BRANCHES This will need a well-designed profit plan. It must be ensured that each and every branch of the bank is viable on its won and that is possible when each and every branch starts evaluating each business transaction from profit angle. (A) DEPOSITS The main source of profit comes from remunerative deposits. The deposit portfolio includes savings bank current and time deposits. The deposit mix decides the cost of funds. It is found that in some of the branches the deposit growth is either stagnant or it has a deposit of Rs. 50/60 lacs over a period of 5 to 6 years. To keep the cost of funds low, the efforts should be to canvas low cost current and savings bank deposits. In rural branches agriculture income is seasonal and most of the agriculture based customers keep the money idle and spend only in specific exigencies. If this sector is approached just in time then the savings bank deposits

can be mobilized in large volumes. In this contest, one home one account has been a successful strategy to woo the customer. What is more important is the timing for deposit mobilisation. But the best way to augment the deposits is by improving customer service. A satisfied customer is the best ambassador of a branch. The customer meets cqan be utilized to popularize the various deposits schemes so that they could suggest suitable schemes to customers. In addition, special letters cab be sent to customers on regular basis inviting their help to improve the business growth. (B) MANAGEMENT OF ADVANCES PORTFOLIO Advances portfolio is another vital area for making the branch profitable. The branch has to find out the industry-wise exposure to determine the extent of NPAs in different category. This will help them in concentrating their efforts in the area s where the percentage of NPAs is on the low side. Moreover, it is observed that the advances of Bank are not picking up to the desired level. The branch should concentrate on retail lending i.e. canvassing car loans, consumer durables and housing finance, etc. Earlier the banks were giving small loans for middle/upper class people.Housing finance is one such area where there is tremendous scope and the percentage of NPAs in this sector is negligible. Moreover, the rate of interest is quite attractive which will increase the yields on advances and hence would enhance the profitability. On the whole branch should analyse its credit portfolio and gradually increase credit delivery to earn better profits. It is in the interest of both and banks to stimulate credit delivery. 4. ABC ANALYSIS The deposit mobilization and credit expansion takes place simultaneously. But at the same time credit administration to keep NPAs under control has to be effective. ABC analysis of the over dues by categorizing the overdue accounts should be done accoding to the quantum of overdue whereby more attention can be paid on such chronic accounts. Segregation of over dues where the quantum of expected recovery is high and the branch is willing.

5.

BANKS SHOULD ADOPT U.S. GAAP FOR NPAs The RBI has permitted strong banks to adopt the U.S. GAAP mode of accounting to dial with NPAs. The U.S. GAAP follows Discounted Cash flow approach towars valuation of securities while Indian Banks follow Market Value approach in making valuation of secured part of loans. Primary reasons for the differences between U.S. GAAP and Indian method is in provisioning aspects for NPAs .Rbi requires banks to determine and report NPAs at book value net of all write-offs and provisions. Under U.S. GAAP norms, banks are require to determine NPAs based on the evaluation of the willingness and ability of the borrower to repay and estimate the realizable part thereof, based on the underlying collateral and /or the underlying cash flows of the borrower.In a move towards internationally best accounting practices and to ensure greater transparency Rbi has adopted 90 days NPA norms. Therefore banks are suggested to make provisions for this and chalk out an action plan for this.

6.

CREDIT RISK MANAGEMENT This is an approach to manage the credit portfolio and is a proactive approach to requirement of lower CAR as risk weighted assets are reduced. This will reduce the need recapitalization of Inidan PSBs and pouring of doles of funds which would otherwise be applied by the Govt. for developmental purpose. NPAs are the legacy of the past and credit risk management is action in the present for the future, It is concerned more with the quantity of the credit portfolio nefore default. It involves Selection-Borrowers financial condition, profitability cash flows, industry, collateral,etc. Limitation-It ensures that individual or group borrower concentrated are not very large and the regulations or the banks themselves prescribe exposure limits.

Diversification- It is related to limitation and is based on the age-old principle of not putting all the eggs in one basket.

Following formula is evolved EL = PD X LGDX EAD EL = expected loss PD = probability of default LGD = loss given default EAD = exposure at default Suppose there is abank X which has only AAA obligators and a bank Y with BBB obligators in its portfolio. The AAA obligator does not default within a year horizon, so the PD=0 whereas the average PD for a bond issued by a BBB obligor is 0.25% for bank X, the EL are zero for one year. For bank Y, assuming the loss given default to be 50% and the EAD to be Rs. 100 crore, the EL would be 100 x 0.0025 x 0.5 = Rs. 125000. The level of EL could vary from 0 to 250000 on an identical portfolio size depending on the quality of obligators. Thus EL can be viewed as normal cost of doing business and it indicates the average or mean loss on the credit portfolio. MERITS: The above approach represents international best practices. It is a more disciplined way of analyzing credit risk. Helps in quantifying risk. It captures the risk of entire credit portfolio as contrasted with the Asset by asset or standalone approach. It measures additional risk arising due to increased exposure to a borrower/s. This forces the bank to adopt internal ratings based approach to credit risk 7. TAKEOVER OF NPA BY BRI INVESTOR The NRI investor have suggested to Indian government that the provison of tax deduction at source on bank deposits to be done away with and to make savings bank accounts tax free to reduce the burden on small tax payers. In wide-ranging

pre-budget suggestions submitted to finance Minister Yashwant Singh, a prominent NRI body appealed to the government to make bank deposits an attractive option of investment compared to mutual funds. It suggested to the government that tax deduction at source on bank deposits be eliminated and separate tax exemption be given to interest on bank deposits of upto Rs. 1 Lakh under section 80 of I.T. Act. To make bank deposits an attractive option of investment. The IndusInd International Federation (IIF), an apex body of overseas Indians and resident corporated chaired by noted NRI Industrialist Srichand p Hinduja also offered to take over the non-performing assets (NPA) of public sector banks as well as tackle their willful defaulters. The IIF said the implementation of the suggestions will make India the most favoured destination for foreign and NRI funds and will spur economic growth and eradicate poverty. The memorandum detailing the suggestions said that the 20 million high income NRIs could contribute positively to the Indian economy which they said should aim at a GDP growth of nine to ten percent in the medium term with greater fiscal prudence and control on revenue expenditure. The IIF said the NPAs have affected the viability of the banks which should be empowered through appropriate amendments to the Banking Regulation Act to seize assets of defaulters and sell the same without intervention of courts as provided for under section 29 of the state financial Corporations ACT 1951 While attempting to solve the problem of the NPAs through the Asset Reconstruction Companies (ARCs) that has been set up it will also be worthwhile to look for foreign investors who normally invest in junk bonds (high risk, high interest bonds) to take over NPAs of Banks.

Given that interest rates applicable to such loans are currently much higher than the rates offered on junk bonds overseas and that there will be some discount that the banks will have to offer to the buyers of NPAs, the overall yield to foreign junk bond investors would be extremely attractive the IIF said in the memorandum. The handling of delinquent borrower particularly willful defaulters can be managed much better by foreign junk bond investors who have special skills in dealing with high risk debtors than by Indian banks. This will help change rhe recalcitrant habits of defaulting borrowers in India many of whom currently believe they can get away with their transgressions while dealing with Indian banks IIF said. While listing suggestions for such a take over of NPAs by NRI investors, the memorandum put forth-other steps to strengthen the banking system. The memorandum was signed by zonal convenors of IIF Ram Buxani from the UAE, K. Sital from Hong Kong, Vasho Purswani from Thailand and Nari Pohani from United States Agencies. 8. CREDIT DERIVATIVES A more risk sensitive standardized approach towards capital adequacy of Banks is credit derivatives, credit derivatives allow the transfer of risk between the market participate without the underlying transaction changing hands A credit derivative works much like an insurance policy. If a bank thinks it its over exposed to a particular borrower or to a particular industry it can transfer the credit risk by, purchasing a credit risk derivative. The main credit derivatives products are swaps, options and forwards. In a credit default swap one party (protection seller) receives a premium at a pre-set intervals in consideration for guaranteeing defaults in payments as envisaged in the credit contract. A credit-spread option is and option on the spread between the yields earned on the assets. The option provides a pay off whenever the spread exceeds some level (the

strike spread).A credit spread forward is obtained by combining a call option and a put option. It is similar to a normal forward except that the underlying is the spread. In addition to the above financial engineering is used to structure more complicated deals on these basic building blocks. These allow the credit risk manager to achieve specific return profiles and gain value by taking on unlikely risk scenarios. EVALUATION Merits It ensures safety and soundness of banks. Banks can fort the first time earmark explicit capital to cover operational risk. It is possible to unbundled the credit risk from loans, bonds and derivatives and sell different form in market Credit derivative instruments facilitate liquidity, transparency and price discovery of the underlying assets It can open up new business opportunities for the players like credit rating agencies and insurance firms, provides new investments options for institutional investors like mutual funds, investment banks/corporates (both as hedgers and speculators), optimize risk return and capital allocation functions. Demerits Highly complex and sophisticated approach restricts its universal application in the emerging and developing markets kike India where the banks continue to be the major segment in financial intermediaries and would be facing considerable challenges in adopting all the proposals. Non availability of past default data.

Difficulties in measuring default probabilities and pricing the derivatives products. Lack of liquid secondary market for audit derivatives. Unresolved regulatory, netting and capital adequacy issues

REQUIREMENTS

Easy availability of skilled personnel in both finance and information technology sectors. Experiments with various credit risk modeling techniques for Indian banks.

In a nutshell, it is difficult to conceive an integrated risk management framework for Indian banks without derivative product to hedge against credit risk. The introduction of credit derivatives could make hitherto dormant credit market liquid, vibrant and broad based. Whether or not our banks are able to implement the international norms within the prescribe timeframe (20040, its essential to know the nature and magnitude of credit risks that Indian banks ate now exposed to and the risk capital requirement thereof. 9. LEGAL RECOURSE :

Updating of certain statues : The legal framework within which banks have to

operate and particularly manage the recovery of their dues from the borrowers is far from adequate. For understandable reasons many legal provisions have, infact, a positive bias favoring the debtor who has been seen as the weaker party and therefore in need of protection. Unfortunately, these very well intentioned provisions cause an immense load (and backlog of cases) on legal system, making lending a hazardous operation for banks. These provisions need to be amended urgently and some new enactment are called for in order to cater to the requirements of the changed and far more complex current economic and business environment.

Legalisations on bankruptcy or foreclosure : Legislation to empower banks

to realize the property charged without court intimation, as in case of State Financial Institutions.

Creditors right to change the management to companies in the event of

default/waring signals : Though this requires certain amendments to existing statues, such a notification should be made to have a far-reaching impact on the health of the industry, as it will enable re-orientation of the management towards the right perspective for turning around the company.

10.

Opening more DRTs and DRATs

Strengthening DRT set-up : Bench of presiding officers, more recovery officers with adequate infrastructure. Mandatory honor of commitment by Government in respect of advances guaranteed by them. CIRCULATION AND PUBLISHING OF LIST OF DEFAULTERS : Currently the RBI circulars among banks and financial institution the list of defaulters, which is found useful in avoiding willful defaulters. The RBI has defined a willful defaulter for the first time. It has provided the broad parameters for identification of willful defaulters whose list will be circulated among banks and financial institutions. Auditors of companies have to report in their certificate about diversion of funds if any. In addition, on Jan 30, 2001, credit information Bureau (CIB) was set up to provide critical data required by any credit institution before arriving at credit decision. State Bank Of India, HDFC, Dun and Bradstreet and Trans Union set up CIB jointly, It will collect information from its members and make it available to any credit institution on demand. CIB is yet to be operationalised. Its success depends upon cooperation extended by the members in supplying the required information on timely basis. Moreover it is also suggested that the banks should publish the list of defaulters in the news paper or blacklist them and circulate the list to all other banks so that no

other banks would give any sort of advance to the blacklisted customer. Also this action will generate prompt payment among the defaulters as the information is made public. 11. CREDIT APPRAISALS AND CREDIT AUDIT : NPA reduction achieved by banks has been offset due to accretion of new NPAs . Prevention of deterioration of asset quality and timely handling of potential NPA account assume significance, sound credit appraisals, credit risk evaluation, centralized data base, credit monitoring, compliance of terms of sanction, timely review of renewals, periodic interaction with borrowers market and economic intelligence and human resources management are equally important. Credit appraisal usually suffer from failures to : (a) (b) (c) (d) Assess Promoters ability to adapt to change and understand industry and market. Raise adequate margins. Forecast sale. Monitoring end use of funds, cash flow. Etc .

Measures required to upgrade the quality of Credit Appraisal in bank (a) (b) (c) (d) Documentation of credit policy for guidance of the staff. Creation of credit audit department to see that audit is done immediately after sanction. HRD through training interventions. Conduct of ongoing industry/ product/ specific studies and making use of the findings to tailor/ churn credit portfolio accordingly.

12.

FOCUS ON FINANCIAL INFRASTRUCTURE TO PROPEL BANKING REFORMS:The recently released report and trends and program in Banking in India brought out by RBI identifies financial stability as the main issue of concern for policy makers relating the soundness of the banking system to macroeconomics stability in general. It points out that a weak banking sector can undermine confidence in macroeconomics policies and structural reforms can no longer be delayed. The factors that have propelled this concern to the fore front are both domestic and external. For are, the domestic course of financial sector reforms in India has come about to be such that lack of structural changes in banking sector is not our surfacing in episodes of scams and defaults, but also inhibiting reforms in other spheres. In addition, international experience over. The past few years has altered policy makers to the perils of capital account liberalization without the support of a sound and healthy domestic financial system. The net result is that unless domestic financial institutions are feared towards global integration further liberalization of the external sector is likely to be stated. The need of the hour, therefore is to introduce reform to increase transparency and corporate governance.

13.

FACTORING The business of collecting someone elses debt on their behalf. A company sell its receivables to a factor at a discount. The factor then sets out to collect the money owed. Its profit comes when it has collected more than the discounted price that it paid for the debts. The company that sells its debts to a factor gets a helpful boost to its cash flow. Factoring may also include any or all of the following : Marinating the companys sales ledger. Managing the companys credit control, that is, making sure that it does not give customers excessively long periods to repay.

The actual collection of unpaid debt. Insurance cover against bad debt.

Thus factoring will be perceived as a complimentary and beneficial service. But in reality even today this is not the perception of many banks. They consider factors as their competitors and are not quite willing to issue letter of disclaimers and share the securities. This two can fill the gap in working capital management by playing complimentary role to each other. But the existing legal framework governing the transactions of factoring is not adequate to make the functioning simple, inexpensive and attractive in the market. The legal framework should have : Define the right, liabilities and duties and obligations of the parties involved in a dues and comprehensive manner so that the parties can plan their affairs with certainty. Be supportive of the transactions and procedures involves so that they may be undertake and completed simply and inexpensively. Moreover ministry of industry has drafted the Bill on The factoring of debts due to Industrial and Commercial Undertaking has been prepared which awaits clearance by the Government of India. Thus with the developments that are taking place presently, one can expect a change for better on the days to come in domestic front. Also cross border factoring is gaining momentum in the changing international scenario. Global competition is growing and factoring companies are offering all the essential facilities such as Financing, Administration (Collection of debt), Risk bearing (Credit Protection) and expertise on cash management. 14. CREDIT INFORMATION BUREAU A mention was made in the April 2000 policy statement regarding State Bank of India entering into a memorandum of understanding with HDFC Ltd. and other

foreign technology partners to set up a credit Information Bureau which would provide on institutional mechanism for sharing of credit information among bank and FIS.CIB has since been set up with a paid up capital of Rs. 25 crore. The Bureau will collect, process and share credit information on the borrowers of credit information on the borrowers of credit institutions. As per the existing legislative framework, success of CIB would largely depend on the banks efforts to obtain consent of borrowers for disclosure and make available the information to the Bureau. While CIB can be functional within the existing framework, to strengthen the legal mechanism for making the functioning of CIB effective, a draft master legislation covering responsibilities of the Bureau, rights and obligations of the member credit institutions, safeguarding of the privacy rights, has been forwarded to Govt. of India. 15. 15.1 NON LEGAL MEASURES : Reminder System The cheapest mode of recovery is by sending reminders to the borrowers before the loan installment falls due. Generally response to this arrangement particularly from honest borrowers is encouraging. But efforts need to be strengthened in banks in sending reminders on timely basis. 15.2 Visits to Borrowers Business Premises/ Residence : This is a more dependable measure of recovery. Visits need to be properly planned. Involvement of staff at all levels in the bank branch is called for costs involved in recovery need to be kept to he minimum. Frequent visits are called for in case of hard core borrowers. Over the years, its is observed that the number and quality of visits are going down consequently, the recovery process is affected. 15.3 Recovery Camps : In respect of agricultural advances, recovery camps should be organized during the harvest season to ensure maximum advance recovery camps need to be properly

planned. It is also essential to take the help of outsiders particularly, revenue officers in the State government, local panchayat officials, regional managers in the banks etc. It also calls for professional approach to give a wide publicity of the recovery camps to be organized in the local area. Mobilize as many farmers as possible and motivate the staff to get involved in the recovery drive. 15.4 Rephasing On paid loan installments : In respect of small advances, bankers need to be sympathetic is respect of sincere and hardworking borrowers. If such borrowers will to pay loan installments due to natural calamities or for some other convincing reasons, unpaid loan installments may be rephrased/rescheduled. Bankers efforts need to be strengthened in this regard. 15.5 Rehabilitation Of Sick Units: Sick Units both in SSI and Non SSI sectors should be identified on timely basis keeping in mind the official definitions, causes of sickness should be genuine, rehabilitation package as to be prepaid keeping in mind the broad parameters suggested by the RBI. The bank and the borrower should implement the package at the earliest. Close monitoring of the progress of implementation is called for. There are several success stories on rehabilitation of which units. But in general, it is observed that the success rate in revival of sickness is discouraging. Further, in the process of financial sector reforms,banks and FIs are hesitant-forehabilitate due to the threat of failure in rehabilitation. Recently, the RBI has permitted banks not to make provision for the RBI will also give sick SSI units soon. For successful rehabilitations, it is essential to create a sense of urgency on the part of both banks and borrower efforts on the part of the govt. in terms of concessions, reliefs, etc. should be made on timely basrs understanding between banks and SFCs should be strengthened. Above all seen action after willful defaulters is called for. 15.6 Loan Compromise

This is the last resort of recovery. This should be voluntary. It calls for professional approach in preparing the compromise proposal for which each back is expected to introduce a scheme. Committee-Approach should be adopted to decide on the loan compromise. Delay in taking decisions should be avoided . Recently, the RBI introduced are Time settlement scheme the overall response to the scheme was limited. Hence each bank is expected to come out with its own OTS scheme. In addition training of operating staff is essential to change their mindset. For effective recovery, loan compromise should be taken up an priority basis. 15.7 Appointment Of Professional Agencies for Recovery : Banks should consider the appointment of outside professional agencies whose services can be utilized to ascertain the wherabouts of the borrower and enforcement of securities. In respect of periodical stock inspection of corporate accounts. Professional Agencies including Chartered Accountants are better. There is some hesitancy on the part of public sector banks in engaging them for recovery purposes due to unpleasant experiences in certain cases. But during the post VRS scenario it is suggested to seek such outsourcing. This should be done after examining the credentials of the professionals. It is also essential to keep a constant vigil on their practices. 15.8 House keeping and Reconciliation : This is one of the most important means which should be attacked by the branches having high number of entries lying unreconciled. The non reconciliation of entries block the funds of the branch on which it cant earn. Head Office interest resulting in adverse impact on the profitability. Moreover, recently RBI has directed that banks are to make provision on net debit amount lying in Other Assets which will force the bank to make higher amount of provisions. The branch should prepare the branch wise details of entries exchange with the other branch of the same region. Give the list of intra-region entries to the Regional heads who can exchange the same with Zonal committee. In case the number of entries from a branch are very

high the staff can be deputed to bring advances. This will save the profitability of the banks as well as stress on employee productivity.

16.

OTHER MEASURES It is suggested to review the existing system of staff incentives for recovery from hardcore NPAs/derecognized interest. Incentives may be offered to lawyers who can mange to get a decree in a record time. Close monitoring of suit filed cases is also called for. Finally in respect of small advances, loan write off may be considered, if the chances of recovery are remote. Privatization of banks : The privatization of banks would significantly increase the stake of stake of shareholders in the banks that will act to control risk to protect their investment. The moral hazard problem can be diminished via equity and debt investment in the banking industry. Finally, the establishment of risk based capital requirement, CRAR, would certainly reinforce the discipline of the market by permitting debt and equity investment in banks. Preventive Aspects : Prevention is better than cure. But recently it is observed that there is unprecedented rise in fresh NPAs in some banks. During 1999-2000 0 recovery from NPAs in some public sector banks was to the tune of Rs. 3000 crore but the amount involved in fresh NPAs was more than Rs. 6000 crore.

CHAPTER SIX

TREND AND PROGRESS OF BANKING IN INDIA 2005-06 TOWARDS GREATER STABILITY AND GROWTH

Trend and Progress of Banking in India 2005-06 Towards greater stability and growth
The RBI's latest Report on Trend and Progress of Banking in India describes, with greater clarity than its previous editions, the achievements and weaknesses in the banking system. Ranging from non-food credit and parameters such as the creditGDP ratio, and agricultural lending, to the policy on NBFCs, the Report testifies to the significant advances made by the financial system in its twin objectives of stability and growth, says S. Venkitaramanan.

THE Reserve Bank of India's Report on Trend and Progress of Banking in India 2004-05, released recently, represents a considerable improvement over its predecessors in terms of clarity and comparability of figures with international experience. It is a tribute to the skillset of those involved in its preparation that it has become established as a standard of reference in banking circles. It deals with various issues professionally, on both the achievements and weaknesses in the system. The report discloses what is already well known that credit has been registering a robust growth. Non-food credit expanded during the year by nearly 27.5 per cent. Priority sector credit increased almost 31 per cent. Industrial credit (medium and large) went up 17 per cent, while housing loans grew 44 per cent. The most significant jump was in real estate loans, which rose by 90 per cent. The deployment of credit needs more particular attention inasmuch as export credit, an important segment, grew only 17 per cent. Agriculture itself accounts for a credit flow of Rs 1,22,870 crore, an increase of 35 per cent over the previous year, a sharp step-up with reference to an increase of only 23 per cent in 2003-04. Small-scale industries, however, accounted for a credit flow of only Rs 76,000 crore, up 15 per cent over 2003-04, compared to 9 per cent the previous year. The flow of credit to small-scale industries has increased, but is still not adequate.

While the report is, in general, self-congratulatory on the progress in meeting credit targets to most sectors, it has a revealing chart, which shows the distance it has still to travel. The chart, showing the credit-GDP ratio in different countries, shows that the ratio is as high as 250 per cent in the US and 150 per cent in the UK. In China, it is also high, nearly 150 per cent. Even in Thailand, it is nearer 75 per cent. In India, it is around 40 per cent. Only Philippines and Brazil are lower than India. India has a lot of catching up to do, if it is to use credit as a tool of economic growth, as have the US, the UK, China and even Thailand. While the RBI is right to stress the stability and safety aspects of its management of the banking system, it has also to focus on reasons why the credit-GDP ratio is significantly low in India, as compared to developed countries, such as the US, and even developing countries, such as Thailand and China. The structural bottlenecks in credit expansion seem to be sticky and deserve to be analysed and tackled holistically. Subject to this general caveat, the observations in the Report on Trend and Progress of Banking deserve to be studied carefully. The report indicates that the RBI has commissioned a number of Task Forces on improvement of credit flows. The reports of the Task Forces have been received. We eagerly look forward to action taken on them. Of particular significance is the action taken on the Task Force to improve credit flows to small industries, especially in the light of the package announced by the Finance Minister. The need for a sharper thrust on credit to small and medium industries is obvious. How far the RBI is successful in implementing the various recommendations made in this regard will determine the rate of growth of this vital sector. Turning to credit flows to agriculture, the report points out that the banking system has been able to reach the ambitious targets laid down by Government in 2004 to double credit to agriculture over the years. The expansion of credit to agriculture has been on track to reach this target. The report mentions actions taken on the report of Prof S. Vyas on agriculture credit.

This includes the preparation of Special Agricultural Credit Plans (SACPs) by banks in the public and the private sectors. The implementation of these plans is being monitored. Action taken in this regard includes waiver of margins/security requirements for loans up to Rs 50,000 and in the case of agri-business and agri-clinics up to Rs.5 lakhs. It was also decided to continue the National Agricultural Insurance Scheme in its present form for 2005-06. Proactive steps taken in this regard need to be supplemented by monitoring of tendencies to weak lending practices.

In spite of the rapid expansion of credit flows, there has been a steady improvement in the soundness indicators of the banking system. The level of NPAs, both in gross and net terms, has declined. The capital adequacy ratio has improved steadily. One significant statistic cited by the report is that the non-performing loans-to-capital ratio, which stood at 71 per cent in March 1999, has fallen to 22.8 per cent in March 2004, and further to 15.5 per cent in March 2005. These are significant successes.

The report gives comparative data to judge the performance of the Indian banking system against global peers. The report refers to what is called the funding-volatility ratio, which determines the soundness of the banking system from the perspective of its balance sheet. The lower the ratio, the better the banks' liquidity. Globally, the funding volatility has varied in the range of (-) 0.71 and 0.11. India's ratio has been in the range of (-) 0.11 to (-) 0.23. This compares favourably with the global indicators. Another interesting comparative static, which the report presents, is regarding return on assets. The return on assets for Indian banks was 1.1 per cent in 2004. It declined to 0.9 per cent in March 2005. In other emerging markets, the figure ranges between 0.9 in Korea to 1.8 per cent in Brazil. Developed countries, like the US, however, showed a return of 1.4 per cent, and the UK 0.6 per cent. China's figures are not given. The NPA-to-assets ratio also shows India in a good light (see Table 1). We have to strive hard to reach the levels attained in developed countries.

The variation of NPA ratios between different bank groups shows the possibility of improvement. While for scheduled commercial banks as a whole the gross NPA/gross advance was 5.2 per cent, it was 5.8 per cent for nationalised banks, 6 per cent for old private sector banks and 2.8 per cent for foreign banks. The scope for improvement in public sector banks is clear, although they have their own special characteristics. The capital adequacy ratios of the banking system compare well with those of emerging market economies (see Table 2). The figures for Canada seem to need some explanation. The report does not make any reference to China. The Basel II norms will be more restrictive. Already, American lawmakers are up in arms against the restrictive implications of Basel lI, which may need more capital for the same amount of assets. We have still to have any such reaction possibly for want of information about the likely impact of the Basel II regime. The report offers a ray of hope to NBFCs in terms of its comments that the Reserve Bank of India is examining the issues involved in financing of NBFCs by banks so that the bankers are able to use the core competencies of NBFCs to extend their reach. The revised policy relating to access of external commercial borrowing by NBFCs with approval of the RBI to finance infrastructure projects is expected to invite increased participation of NBFCs in infrastructure financing by easing the resource enrolment. One hopes for a more liberal approach to NBFCs being financed by banks in general even in regard to domestic lending. The fact is that India has advanced substantially in respect of banking in the last decade or so. However, when we compare ourselves with China, we find ourselves lacking in some respects. We need to expand the depth and penetration of our banks, albeit with an eye on safety and prudential norms. Overall, the report is a well-crafted document indicating directions for further improvement in the financial structure. It is a credible progress report testifying to the significant

advances made by India's financial system in its twin objectives of financial stability and growth.

RBI proposes one-time settlement for SMEs

IN a move that will benefit the small and medium enterprises sector, the Reserve Bank of India has asked public sector banks to provide a simplified mechanism for one-time settlement of chronic non-performing assets in this sector. In the guidelines released today, the RBI said this move should be extended to NPAs in the SME sector, which have become doubtful, sub-standard or loss making as on March 31, 2004, with an outstanding balance of Rs 10 core or less. These guidelines will cover cases on which the banks have initiated action under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 and also cases pending before courts, Debt Regulatory Tribunal or Board of Industrial and Financial Reconstruction. Cases of wilful default or fraud will not be covered, the guideline said. The minimum amount recovered for NPAs classified as doubtful or loss would be 100 per cent of the outstanding balance in the account. In case of NPAs that are classified as sub-standard, the minimum amount recovered would be 100 per cent outstanding balance in the account, plus interest at existing prime lending rate from April 1, 2004 up to the date of final payment. In cases where the borrowers are unable to pay the entire amount in lumpsum, at least 25 per cent of the amount of settlement should be paid upfront and the balance amount of 75 per cent should be recovered in instalments within one year, along with interest at the existing PLR from the date of settlement up to the date of final payment. A quarterly report should be sent to RBI. The last date for receipt of applications from borrowers will be as at the close of business on March 31, 2006.

Most banks meet capital ratio requirements

MOST scheduled commercial banks have met the capital ratio requirements and have also shown a distinct improvement in asset quality in 2004-05, said RBI in its annual report. The aggregated capital ratio of scheduled commercial banks at end-March 2005 was marginally lower than at end-March 2004, which could be attributed to the increase in total risk weighted assets relative to capital, for the first time since March 2000. Higher growth in advances portfolio of banks and higher risk weights made applicable for housing loans - the most rapidly increasing retail loans component - contributed to the increase in risk-weighted assets. The core capital (Tier-I) ratio of banks increased from 8.1 per cent at end-March 2004 to 8.5 per cent at end-March 2005, as some banks raised resources from the capital market mostly at substantial premium. Only two banks could not meet the prescribed capital to risk weighted assets ratio (CRAR) at end-March 2005. The declining trend in gross and net non-performing assets (NPAs) for scheduled commercial banks, which began in during 2002-03, continued during 2004-05 with the net NPA ratio going below two per cent for the first time. The fact that the provisioning for NPAs was much lower during 2004-05 indicates that the decline was due to increased recovery and overall reduction in asset slippage. An improved industrial climate also contributed to better recoveries. Only four banks had net NPAs in excess of 10 per cent of their net advances. Similarly, the net NPA to capital ratio steadily declined from 21.3 at end-March 2004 to 14.4 per cent by end-March 2005 reflecting the increase in capital, coupled with rapid decline in net NPAs. In the case of urban co-operative banks, the CRAR increased to 12.7 per cent (11 per cent), while net NPAs declined to 8.9 per cent (20.8 per cent).

Foreign banks eye stressed assets here

ACCORDING to the March 2005 newsletter of SKP Crossborder Consultants, foreign commercial banks such as Deutsche Bank, Bank of America and Barclays Bank are examining the possibility of investing in stressed assets in India. These banks are reported to be interested in acquiring individual bulk exposures rather than a portfolio of bad loans. Quoting experts, the newsletter `eye to I(ndia)' says that India is fortunate because globally there is an oversupply of investible funds and an undersupply of bad loans of potential commercial value. After having dealt with their own non-performing assets (NPAs) in East Asia, these banks are now looking at investing in bad loans elsewhere as a business proposition. Foreign banks are also keen on setting up asset reconstruction companies (ARCs) in India, which is seen as having a $25-30 billion market of bad loans. Vulture funds and buyout funds are also waiting in the wings in the hope that the regulatory framework will allow them to participate soon, the newsletter says. Currently, there is no bar on foreign banks investing in bad loans.

A performing value for NPLs

THE existing asset reconstruction company (ARC) framework envisages banks and financial institutions transferring their non-performing loans (NPLs) at "fair value", with lenders making upfront adjustments in their financial statements for difference between book and transfer values. "Fair value" is the value at which the buyer and seller may be expected to transact, while acting on an arm's length basis, with both having reasonable access to relevant information and neither being under any compulsion to act. While NPL valuations would clearly depend on perception of both parties, ARCs/NPL investors paying cash are unlikely to acquire NPLs at prices higher than their assessment of net realisable value, considering the costs of maintaining and realising the asset value, together with a return on capital commensurate with the risk attached. However, in view of lenders' unwillingness and inability to absorb upfront financial loss and often differing value perception between lenders and ARCs/NPL investors, NPL

valuations have the potential to delay NPL transfers, impeding much needed consolidation of debt for speedy and focussed attention to resolution. NPL valuations may be enhanced by certain measures, which would, therefore, encourage transfer of distressed debt and help the financials of the banks.

Strengthening of creditors' rights

International experience suggests that strong creditors' rights and insolvency laws are prerequisites for successful and effective NPL resolution. Success of Danaharta, the Malaysian AMC, can be attributed to existence of strong and clear legal regulations. On the other hand, in Thailand, the legal framework on creditors' rights lacked clarity and even the judiciary had difficulties in interpreting laws on creditors' rights, leading to long and costly legal disputes. ARCs/NPL investors, with significant financial investments at stake, seek clarity on practical resolution options, likely timeline and possible impediments. Any perceived uncertainty/impediment in implementing possible resolution options tends to get priced in, leading to lower valuations for the lenders. One such impediment is the automatic and indefinite stay against creditor actions, which follows from a BIFR filing. Enactment of the SARFAESI Act, 2002 that permits the secured lenders to enforce security interest without reference to court, was a critical step towards strengthening of creditors' rights. Subsequent amendments have tried to address certain issues experienced or envisaged in implementation of the SARFAESI Act provisions. There is, however, still a need for strengthening of Debt Recovery Tribunals and practical measures for improving their functioning.

Rationalisation of transaction costs

High transaction costs involved in acquisition of financial assets is one of the biggest deterrents to asset reconstruction activities in India. Under the current legal regime, transfer of financial assets in some States could attract ad valorem stamp duty of up to 14 per cent of transaction value or market value of financial assets being assigned/transferred, thereby eroding the economics of the proposed transaction and impacting its pricing. Stamp duty is a `State' subject and, therefore, the various stamp duty legislations need to be amended to reduce stamp duty payable on the assignment/conveyance of financial assets to an ARC. Further, as per existing laws, any income from an NPL resolution is likely to be taxed at the maximum marginal tax rate, with significant limitations on an investor's ability to set off loss incurred on some transactions against the gains made on others. Given the economic desirability of reconstruction activity, need to clean up lenders' balance sheets, inherent risks involved in undertaking such activity and the need to attract NPL investors, there is merit in considering extension of "mutual fund type" tax exemption for ARCs and trusts set up by ARCs, recognising their pass-through nature, and either full exemption for the NPL investors or a simple tax regime based on low incidence, easy computation and allowing set off of losses. The consequent lowering of tax incidence and uncertainty relating to asset reconstruction activity shall result in higher NPL valuations and the reduction in complexity shall itself be beneficial.

Large number of NPL investors

The introduction of NPL investors, both domestic and overseas, into the NPL resolution process has clearly been a key driver of success in other countries. They bring a combination of skills, experience, objectivity and commercialism to the resolution process. Importantly, they represent a significant source of capital that can be injected not just into the financial sector (through acquisition of NPLs), but also into the commercial/real sector via capital infusion into distressed businesses as part of a restructuring.

In the Indian context, involvement of independent NPL investors becomes even more important as existing ARC framework envisages little fiscal support from the Government, with funding for NPL acquisition and resolution coming from independent NPL investors and there is inadequate risk capital in the country. Discussions with various independent NPL investors suggest that Indian NPL opportunity is attractive provided there is a demonstrable deal flow and issues relating to investment structuring are addressed. Involvement of such investors at a large scale should help generate competitive tension, thereby increasing NPL valuation from the lenders' perspective. Encouraging a wide array of institutional investors, without undue restrictions and with reasonable flexibility to structure deals commercially, is, therefore, desirable.

Aggregation of different lenders' stake

In India, NPL ownership is quite fragmented and debt aggregation is a key prerequisite for achieving successful NPL resolution. The existing ARC framework envisages ARCs/ NPL investors marketing themselves to various lenders and acquiring financial stakes held by them in a borrower. While, on the one hand, this approach would have time/cost implications on the ARCs/NPL investors in co-ordinating with different lenders, on the other hand, ARCs/NPL investors are likely to provide for risk premium for possible difficulty in achieving debt aggregation. ARCs/NPL investors would be willing to pay higher valuation for the aggregated NPLs as this would enable them to move ahead with their resolution strategy without waiting for debt aggregation to be achieved. Such a debt aggregation may be achieved through Government directions to banks for mandatory transfer of NPLs to ARCs in case any of the lenders decides to transfer its stake to an ARC or an NPL continues beyond a predetermined time.

Professional management of the NPL process

Since uncertainty is the hallmark of NPLs and uncertainty erodes value, selling banks should consider various measures to mitigate this uncertainty and improve the potential buyers' ability to evaluate the assets as well as their confidence in the information provided. Professional advisors, specialising in NPL transactions, have developed their own expertise in this area, have access to a large number of investors and carry credibility built on track record. Collation and review of relevant information, validation of data and its professional presentation by such an advisor can make the task of potential buyers much easier and reduce the bidding cost, thus encouraging a larger number of potential buyers and increasing competition. The consequent improvement in value realisation makes the involvement of such advisors well worth their fees. The above steps would not only go a long way in enabling lenders to get higher NPL valuations, these would also encourage development of the overall NPL resolution process and extracting higher value from them.

RBI relaxes NPA norms for urban co-op banks

URBAN co-operative banks (UCBs) will be allowed to apply the 180-day delinquency norm till March 31, 2006 for identification of NPAs in gold loans and small loans up to Rs 1 lakh, the Reserve Bank of India said in a release. This move by the RBI is expected to give some relief to UCBs, which were required to move over to the 90-day delinquency norm for asset classification from the fiscal ended March 2004. The RBI has also decided to permit unit banks (single-branch banks) and multi-branch banks operating within a single district having deposits up to Rs 100 crore to classify NPAs based on 180-day delinquency norm instead of the existing norm of 90 days. This relaxation will be in force for three years up to March 31, 2007. It will give relief to small banks in provisioning requirement with retrospective effect, that is, from the fiscal ended March 2005 and enable them to transit to the 90-day norm in a calibrated manner by the end of three years, the release added.

States reluctant to cut stamp duty on NPA take-outs

Stamp duties and registration fees in the States currently range from anywhere upwards of 12 per cent on the cost of the transaction. Such high transaction costs undermined the

viability of the NPA take-out, bankers said. STATES have declined to reduce stamp duties for asset reconstruction companies taking out non-performing assets from banks and financial institutions. Banking sources said that States' refusal to provide duty concessions had created difficulties for rehabilitation of non-performing assets (NPAs), and in turn for the borrowers. Stamp duties and registration fees in the States currently range from anywhere upwards of 12 per cent on the cost of the transaction. Such high transaction costs undermined the viability of the NPA take-out, bankers said. In fact, this was one of the major reasons why most bankers were wary of shedding their assets in favour of the asset reconstruction companies. High pricing: Bankers said that in States the stamp duties/registration fees were fixed on the basis of the face value of the NPA to be acquired. This made the pricing of the NPA high. As a result, asset reconstruction factored these elements into the pricing, leading to very high discounts. So far, most of the NPA take-outs have been done at discounts upwards of 50 per cent of the face value, the bankers said. In some of the cases, the pricing quoted by the take-out financiers was far less than the net book value (NBV) of the NPA. The NBV of the distressed asset is arrived at after netting of provisions. Liquidating NPAs at below NBVs therefore clearly did not make sense, since such losses would have to be debited from the profit and loss account. High discrepancy: Bankers said that this pricing was one of the major factors leading to high discrepancy between the gross NPA ratio and the net NPA ratio. The average gross NPA ratio for the banking industry is currently about 4.5 per cent (NPAs as percentage of advances).

On the other hand, the average net NPA ratio is about 1.5 per cent, implying that banks preferred to have the NPAs on their books and resort to recovery measures themselves, instead of liquidating them in favour of ARCs. Revenue earner: States' resistance to providing stamp duty waivers/concessions for NPA take-outs, bankers said, was driven by revenue considerations. Few States were prepared to forego revenues. Only States that were convinced that the transactions were revenueneutral or revenue-positive had resorted to proactive measures in providing concessions and waivers, the sources said. The sources said that currently only three States, Maharashtra, Andhra Pradesh and Tamil Nadu, had provided stamp duty waivers to banks and FIs for NPA take-outs. As a result, the sources said that the bulk of the NPA take-outs were concentrated in these three States, paving the way for rehabilitation of borrowers. The bankers added that unless the rest of the States also followed suit, NPA rehabilitation would remain a problem area

FDI will enhance liquidity for ARCs'

THE Government's nod for 49 per cent FDI in asset reconstruction companies (ARCs) will attract specialist agencies from overseas, the Indian Banks' Association has stated. The specialist agencies may well include certain foreign banks, which are believed to be interested in acquiring non-performing assets in the Indian market, the IBA chief, Mr H.N. Sinor, said, adding that the latest decision by the Government will enhance liquidity for the ARCs. A number of overseas investors are said to have expressed interest on this front. CDC (earlier known as Commonwealth Development Corporation), for instance, has already mooted a venture along with a couple of other partners.

Banks to intensify recovery of `loss assets'

Non-performing assets classified as loss are those that have been written off. Banks are focussing on recovering these assets. FACED with sagging treasury incomes, public sector banks are now shoring up their profits and capital by intensified recovery of loss assets. Sources said the recovery of loss assets helps them boost their profit and loss accounts. Non-performing assets classified as loss are those that have already been written off. It is these assets that the banks are focussing on. Bank of India, for instance, is planning to recover at least Rs 1,000 croreduring the current financial year. Speaking to Business Line, the BoI Executive Director, Mr P.L. Gairola, said: "At least 20 per cent of this recoveries will be from written off assets." In fact, most of the public sector banks stresses that at least 25 to 30 per cent of the written off assets are recovered. Bankers said one of the main advantages was that such recoveries went directly to the profit and loss account. Recoveries of substandard assets, on the other hand, meant that only the interest/penal interest levies would be treated as income. Principal recoveries are part of the capital. In written off assets, both principal and capital are treated as income. Bankers said the recoveries were facilitated with the passage of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act.

Consequently, none of the banks wasinterested in passing on the assets to the Asset Reconstruction Company Ltd (ARCIL). Bankers said if such assets were passed on to ARCIL, they would have to incur huge discounts, upwards of 50 per cent, on the face value of the assets. Recoveries of the NPAs therefore meant that they would be saving on the discounts, bankers said. They also said such recoveries helped them bring about a reduction in their gross nonperforming assets. In fact, some of the banks are slated to bring down their gross NPAs down to less than 3 per cent of the gross assets. So far, most of the NPA reduction has focussed only on making large provisions. This year, recoveries alone would help banks create substantial cushion for making floating provisions, they said. Moreover, bankers said the recoveries of the loss assets would also help them to substantially mitigate the capital charge requirements when Basel II norm for market risk comes into force from next year. This was because income from these loss assets alone would be sufficient to take care of some of the deprecation requirements on securities in the marked to market categories, they added. However, the flip side was that the banks would face higher tax liabilities on account of the high recoveries. But bankers said: "Even if we payout corporate taxes at the peak rate, we will still have substantial retention, that will strengthen our capital."

SBI opts for dual remedy to recover bad debts

STATE Bank of India has decided to pursue its bad debt recovery efforts simultaneously under the Securitisation Act and the Debt Recovery Tribunal (DRT) Act. SBI's decision runs contrary to the Finance Ministry view that simultaneous proceedings are not permitted under the existing debt recovery laws. SBI has told its branches that legal advice sought by it, coupled with the status of a pending litigation on the issue at the Delhi High Court, suggests that lenders can initiate simultaneous action both at DRTs and under the Securitisation Act. The branches have been asked to "immediately arrange to initiate/pursue suitable action under the Sarfaesi Act (Securitisation Act) also where it was not initiated or was stalled due to DRAT (Delhi) order." The instruction has been issued after the bank's in-house legal department clearly supported the move to pursue dual remedy for bad debt recovery. The department has said that the bank should not give up its right under the Sarfaesi Act by giving an interpretation to the laws to suggest that only one remedy can be tried at a time. SBI has been forced to issue the clarification to its branches in the wake of massive slowdown in the debt recovery efforts on account of the legal uncertainty. "Branches have either stopped further action in the cases where notices had been issued under the (Securitisation) Act or held initiation of such action in abeyance where DRT suits are in progress," the circular said. According to banking circles, the paralysis has not been limited to SBI but has afflicted the entire banking sector, which has been waiting for some clarity to emerge on the legal position. The sudden limbo in the recovery action was sparked off by a December 2004 DRAT (Delhi) order that lenders would have to withdraw their original application filed with the DRT against a borrower if they decide to initiate action under the Securitisation Act.

However, the order was subsequently stayed by the Delhi High Court on a case filed by IndusInd Bank. Hearing on the matter, that had came before the court July 7, has now been put off till August 5. Incidentally, in February 2005 DRAT (Chennai) had passed an order that did not concur with the view of its Delhi counterpart. The Chennai tribunal had held that there was no bar on the lender initiating simultaneous proceedings. The Finance Ministry had very recently said that its reading of the law suggests that simultaneous proceeding under DRT and Securitisation Act is not permitted. "DRT is the court of adjudication between borrower and secured lenders for any action under the Sarfaesi Act. Hence, simultaneous proceedings under both the Acts cannot be allowed," it had said.

Banks can sell NPAs of over 2 years to other banks: RBI

BANKS can sell only non-performing assets (NPA) of two years and above to other banks, said a guideline issued by the Reserve Bank of India. The RBI has issued this directive to develop a healthy secondary market for NPAs where securitisation companies and reconstruction companies are not involved. It is also expected to increase the options available to banks for resolving their NPAs. Banks should sell NPAs to other banks only on a cash basis, and the entire sale consideration should be received upfront. The asset can be taken out of the books of the selling bank only on receipt of the entire sale consideration, the guideline stated. The purchasing bank should hold the NPA in its books for at least 15 months before it is sold to other banks. The guideline also warns banks against selling NPAs back to the bank from which they had purchased the NPA.

If the purchasing bank is unable to meet the price, the selling bank should not be obliged to meet the shortfall. Once the NPA is sold to another bank, the selling bank should not be involved with the asset sold and should not assume operational, legal or any other type of risk relating to financial assets. Also, after it is sold, the asset should not enjoy the support of credit enhancements or liquidity facilities. Any recovery in respect of NPA purchased from other banks should be first adjusted against its acquisition cost. Recoveries in excess of the acquisition cost can be recognised as profit. For the purpose of capital adequacy, banks should assign 100 per cent risk weights to the NPA purchased from other banks. In case the NPA is an investment, then it will attract capital charge for market risks too. For non-banking financial companies, the relevant instructions on capital adequacy will be applicable. An NPA purchased by a bank should add value to the bank and the purchasing bank should bear the entire credit risk associated with non-performing financial assets

States can help banks recover NPAs'

As a deterrent to wilful default, the RBI group suggests establishing a credit information bureau. THE Reserve Bank of India's Expert Group on Investment Credit (EGIC) today asked state governments to extend all possible help to banks in their recovery efforts and even make suitable amendments to their recovery acts, as flow of credit to rural sector is hampered by poor recovery of loans and increasing non-performing assets. This is one of the suggestions put forward by EGIC. "Banks may also take recourse to the services of the Lok Adalats for speedy recovery of their dues and even consider outsourcing recovery to government departments on commission basis," the report said. The group headed by the Nabard Managing Director, Mr Y.S.P. Thorat, said that Nabard should design appropriate products for financing rural infrastructure projects, especially for such projects that would be implemented through community participation.

The report said that as disbursal of money to the agricultural sector involves higher transaction cost, it could adversely affect profitability of banks. Therefore, banks could adopt methods like hub-and-spoke model and satellite banking to increase their outreach. Banks may also have to resort to alternative mechanisms of rural credit delivery such as self-help groups, micro-finance institutions, co-operatives and agent base banking. In order to encourage investors, there is need to develop commodities futures market by allowing banks to operate on behalf of farmers and participate in commodity derivatives. As a deterrent to wilful default, the group suggests establishing a Credit Information Bureau to track and share credit information. This will enable lenders to provide incentives to those with good credit history. As measures to improve productivity by efficient water management, the group suggests steps such as promoting micro irrigation projects like drip and sprinkler, revival of traditional rainwater harvesting methods, formation of water users' associations, encouraging conjunctive use of water and rainwater harvesting through farm ponds, proper upkeep and maintenance of canal and appropriate targeting of state government subsidies given for crops.

Good recoveries bring cheer to bankers

Recoveries this year are expected to be in excess of Rs 250 crore for each of the banks. Besides, there was little NPA accretion during the last fiscal. BANKERS have a cause to cheer for their performance in the last financial year. Most of them are expected to turn in good results on the back of good recoveries of the delinquent loans. Banking sources said that despite the high depreciation during the last year, none of the large public sector banks would be affected. Recoveries this year are expected to be in excess of Rs 250 crore for each of the banks. Besides, there was little NPA accretion during the last fiscal, bankers said. On incremental basis, bankers said that the provisioning for bad loans had reached international levels. Bankers said that the NPA recoveries had been fully provided. Consequently, the recoveries of the principal would become part of the capital reserves. Interest and penal receipts would become part of the profit and loss account and treated as part of extraordinary income. These elements would then contribute to beefing both the capital as well as the incomes of the banks. At the same time, bankers said that the NPA coverage ratios would rise to above 75 per cent for the entire banking sector, though in some cases it would be as high as 90 per cent.

NPA coverage ratio reflects the quantum of bank provisions as part of the non-performing loans. Along with the recovery efforts, bankers said that last year, most of them had shown nonfood credit growth in excess of 30 per cent. Along with the low NPA provisions, credit growth was a substantial driver of profits, unlike in the past, they said. For the last four years treasuries had driven bank profits. But treasury income in 2004-05 was substantially lower. In fact bankers said that for some of them, treasury operations would actually be incurring losses, due to a steep rise in yields of all government securities. Ten year G-sec yields have hardened by at least 1.5 per cent between March 31, 2004, and March 31, 2005. As a result bankers have lost interest in treasury and have returned to core operations for generating profits. In fact, core operations are expected to sustain profits well into this year, bankers said. This loss of interest in G-sec trading was evident from the narrowing spread between G-sec yields and the interest rates on credits. This spread between AAA/ AA rated borrowers and G-secs was only about 200 basis points. Besides, during the last year, while G-sec yields rose, lending rates to corporates were mostly unchanged. Besides none of the major banks have altered their benchmark prime lending rates, hovering between 10.5 per cent and 11.5 per cent. Most banks, however, were lending to top-rated corporates at discounts to the BPLR. But bankers admitted that these recoveries would also result in greater tax liabilities. In fact, for the current assessment year, banks are expected to exceed the tax as well as the dividend estimates made by the Government. This was despite the reduced corporate tax rates. But most public sector banks have already paid out liberal interim dividends to shareholders during the last fiscal, the greatest beneficiary of this largesse being the Government

Good business from bad loans?

With recent RBI regulations paving the way for the sale of bad loans, banks seem set to offload their heavy burden of NPAs, and make some hot cash in the process. THE much-maligned non-performing assets (NPAs) of Indian banks are poised for a major makeover with the RBI paving the way for the sale of bad loans between banking and nonbanking financial institutions. The barter of NPAs for securities was already being done, albeit in a limited fashion, via the euphemistically named Asset Reconstruction Company (India) Limited (ARCIL). Now the gates have been thrown open for banks, non-banking financial corporations (NBFCs) and other financial institutions to create a thriving secondary market for bad loans.

Some NBFCs, especially multinationals, have already started hovering around and swooping in on Indian banks, looking to relieve them of their NPAs. These developments rasie several questions: Why do some banks, especially those in the public sector, appear all-too-eager to offload their bad loans? How do asset reconstruction companies such as ARCIL fare vis--vis other financial institutions entering the bad loans business? Since no "for-profit" organisation would acquire a portfolio of bad loans unless it fetches good returns, what draws the NBFCs, especially multinationals, to bad loans, somewhat like vultures to cadavers? How do these buyers of bad loans expect to extract their pound of flesh? What is it that these institutions can do which the original creditor bank could not, that they are hopeful of salvaging value out of such assets? Meeting NPA targets and circumventing a protracted, pothole-ridden legal resolution process for debt recovery are only a few reasons for banks to dust NPAs off their books by taking recourse to ARCIL or NBFCs. There are other reasons as well: The adoption of the Basel II framework by the RBI requires banks to provide for more capital to cover the cost of defaulted loans. Banks can immediately lower their regulatory capital requirement by jettisoning such non-performing loans from their portfolios. Most NPAs stem from large-scale commercial borrowings rather than such retail borrowings as home-loans or farm-loans. Some of them are of a vintage nature, hangovers from the erstwhile socialist regime, where debt rather than equity was the primary mode of raising capital for an industry starved of venture capital and as yet lacking a risk-taking stock market philosophy. The banks that shouldered the cost of development in such an economic environment can now shake themselves free of some deadweight and use the proceeds to offset some of their costs. Anecdotal evidence suggests that a sizeable share of NPAs originates from people with political clout, including business families, celebrities and cricketers who siphon off funds borrowed via a complex web of corporations. In such instances it is an innate lack of willingness to pay rather than an inability to pay that leads to NPAs. While we have seen the many facets of debt collection on retail consumer products such as credit cards and car loans, commercial loan recovery has been an elusive proposition for a while. Public sector banks were more or less paralysed by low empowerment levels, the glacial pace of our legal processes and political intervention.

Even today, horror stories abound where officers initiating action on wilful defaulters are exiled overnight on transfer to a god-forsaken location, scuttling the recovery process at the very outset. Thus public sector banks stand to gain in many ways from the creation of a market for bad loans. However, a part of those gains will likely be at the expense of the unfortunate entrepreneurs of the socialistic era whose ventures did not pan out as expected. While it is not easy to conclude that the creation of a secondary market for commercial loans is an unmixed blessing for India, such a course of action is perhaps understandable, if not inevitable. By selling off NPAs to NBFCs, banks can not only wipe their slate clean of bad loans and cut their credit risk exposure, but also get hot cash in return for them. Thus the new RBI regulations present a far more attractive proposition to banks compared to what is on offer from asset reconstruction companies, such as ARCIL, which issue security receipts with incomes subject to uncertainty and spread over a long period. The buyers of bad loans, on their part, are eager to enter the business because it holds the promise of rich rewards in return for the risk of investing in loans given up by creditors that come labelled non-performing' from the word go. For starters, the buyers will pay as price only a fraction of the face value of the loans they purchase. They will aggregate assets so acquired from different banks and assemble a portfolio that will comprise a wide spectrum of NPAs of differing qualities, from lowhanging fruits for easy plucking to hard nuts that defy cracking. They will then actively pursue options for making recoveries through restructuring or liquidation. Although they may not be successful in every instance, their bet is that at they will manage enough returns on the portfolio as a whole to recoup their costs and make a tidy profit in course of time. While ARCIL can create a niche for itself by consolidating multiple and conflicting claims on the same debtor and streamlining the recovery process, multinationals enter the market with their own advantages. Multinationals are in a better position than public sector banks in turning around bad debts, not just because they are more resilient to power-play and political pressure but also because they can draw on their expertise and experience from other parts of the world. Commercial loan rehabilitation is a mature industry in countries like the US where lenders employ specialist "loan workout officers" for transforming non-performing multi-million dollar loans into productive assets by negotiating with borrowers.

Being a loan workout officer is a highly remunerative profession for which courses and training programmes are conducted. Students of that peerless chronicler of contemporary America, Tom Wolfe, would remember his modern epic, A Man in Full, which immortalised such "workout artistes" through Harry Zales, whose stock-in-trade is the art of deflating the ever-ballooning egos of big and mighty defaulters, like the protagonist Charlie Crocker, and making them eat out of his hands. Given that the bad loans business in India is of the order of thousands of crores of rupees, it may not be outlandish to expect multinational NBFCs to emulate our airlines importing CEOs and bring in expatriate workout officers from abroad to work on their portfolio acquisitions here. If and when that happens, India's Charlie Crockers can look forward to something like a blind date with their comeuppance.

CONCLUSION
If the nationalized commercial banks desire to stand in competition with the private sector banks and the foreign banks, they should over a period of time, be in a position to bring down NPAs to manageable proportion. Moreover, the government should take measures to facilitate the efforts of the banks in the recovery of the loans which currently taken inordinately long time. If willful defaulters to delay the rrepayment of the loan use the BIFR proceedings the relevant legal provision should be appropriately amended. The fact that the NPAs are gradually going down generates hope about the future of the banks, though we should keep in mind another simple fact that in absolute amount, this has not happened. The burning problem of tackling NPAs which have been better, termed as sticky assets is deep rooted and has gripped the banking sector for ages. This situation in most of the cases would not have occurred had the banker been move objective at the time of appraising the loan proposal itself. A common mistake made by most of the bankers is that they rely too much on the technical (formal) side of the credit evaluator. Most of them feel that todays sophisticated analytical tools of financial statement will provide all the details required for the decision making ignoring totally the importance of informal of non-technical credit investigation which throws a lot of light in other areas like character capacity competence etc., of the promoters/partners. If a credit proposal is processed properly/ sanctioned disbursed in time and inadequate amount and monitored right from the beginning then the enhances this assets becoming NPA is relatively less than another which has been processed in haste, appraised mechanical delayed in sanction and disbursed in inadequate quantum. As a part of the re-engineering exercise, banks must work out a clearly defined job plan for each desk at the operational and administrative level, supported by clearly defined working, control and reporting systems. The system of instant accountability must devolve as all decision making centers, whenever there is a deviation from the laid down procedures.

The NPA reduction technique of Slippage Management along with proper credit appraisal and the occasional fire fighting of NPA will certainly help to which the incidence of NPA in the banking industry thereby improving the banks profitability. When a banker really needs now is not NPA Management but slippage management before the assets becomes NPA. The statistics showing the position of performing Assets (PA) of a bank or branch may not be correct because within this performing category is a hidden portion shows Incipient problems which may form out to be non performing not properly and timely attended to. These Incipient assets are in a state of flux showing varying degrees of prospective nonperformance precisely because of this RBI has asked the banks to make a provision of 0.25% even in the o/s of the so called Standard Assets which comprise around 80% of all loan assets of PSBs in the country. Mr. Yashwant Sinha, the Finance Minister was of the view that win approach of stringent action against the defaulters while providing reliefs to small borrowers who were eager to pay back the principal amounts. The govt. also mooted an ARC encouraging HDFC and SBI to set up credit information bureau for disseminating information to the banks about the defaulters. At present loan is classified a non performing when the interest and installment of principal remain overdue for a period of more than today as against the international best practice of 90 days payment delinquency. With a view to moving towards international best practices and to ensure greater transparency. It has been decided to adopt the 90 day norm form the year ending March 31 2004. Accordingly, with effect from March 31 2004, a Non-performing asset shall be a loan or an advance where : Interest and/or installment of principal remain overdue for a period if more than 90 days in respect of a term loan.

 The A/c remains out of order for a period of more than 90 days, in respect of an overdraft/cash credit (OD/CC). The bill remain overdue for a period of maximum than 90 day in the case of bills purchase of discounted Interest and for installment of principal remains overdue for two harvest seasons but for a period not a exceeding two half years in the case of an advance granted for agricultural purposes Any amount to be received remains overdue for a period of more than 90 days in respect of other a/cs. The banks are, therefore required to chalk out an appropriate transition path for smoothly moving over to the 90 days norm. As a facilitating measure, banks should move over to charging of interest at monthly rests, by April 1, 2002. However the date of classification of an advance as NPA should not be charged on account of charging of interest at monthly rests. Banks should therefore, continue to classify an account as NPA only if the interest charged during any quarter is not serviced fully within 180 days from the end of the quarter with effect from April 1, 2002 and 90 days from the end of the quarter with effect from April 1, 2002 and 90 days from the end of the quarter with effect from March 31 2004. Banks would have to substantially upgrade their existing Managerial Information System for collecting data on loans, where the interest and/or installment of principal remain overdue for a period of more than 90 days in order to crystallize NPAs on a 90 days norm. Banks should commence making additional provisions for such loans, starting from the year ending on March 31 2002 which would strengthen their Balance Sheet, and ensure smooth transition to the 90 days norm by March 31 2004. Banks are therefore, advised to work out necessary modalities and submit their action plans early and in any case by Dec. 31 2001 after approval by their Boards to RBI. RBI will monitor the implementation of the plans on a half-yearly basis.

In addition, it can be stated that the surest way of containing NPAs is to prevent their occurrence. The tenets of this approach lie in the following : i) Proper risk management systems be put in place in the banks. ii) Strong and effective credit monitoring. iii) An open and co-operative working relationship between banks and borrowers that would allow exchange of confidences and initiation of corrective action early. But to manage effectively the existing NPAs the banks must adopt a structured NPA management policy for guidance of operating functionaries. Finally, an effective legal framework will be needed to bring recovery suits to their logical conclusion and effect recoveries, within a reasonable time frame. Compromise Settlements should be explored as an effective non-legal option for recovery. The analysis throws up following future action by regulations and policy makers. One, Legislative reforms are needed both to contain the level of existing NPAs and to prevent building up of large NPAs in future. Two, infrastructure reforms are needed to make DRTs effective. Three, a time reduction in directed credit is required. The indusion of new sectors in directed credit in 98-99 is a step in the right direction. Four, enactment of legislation against loan write-offs is needed. Five, the government should announce a long-term policy on capitalization of banks which should aim at a gradual withdrawal of government assistance. These are measures that create an environment conductive to preventing buildup of NPAs in the future. Lastly, banks RBI an government are suggested to follow the following mantra to reduce NPAs.

NPA Reduction Mantra Banks : Do not give money, lend it. What matter is what for you finance and not what against. Borrower accounts need real time monitoring, not post mortem. An NPA account need out necessarily mean that the borrowing company is unviable or sick. Try to identify and bridge viability gaps of industrial units. Many sick units need nourishment in the form of fresh dose of loans to regain health. One time Settlement with willful defaulters may be good mathematics but bad banking. Always follow basic lending norms. Put credit decisions on fast track.

RBI /Government : Loans failures due to malafide credit decisions warrant fixation of accountability. Radical legal reforms to expedite proceedings. Say no loan waivers. If a unit cant exist let it exit. Facilitate mergers and acquisition involving sick units.

The banks also need to conduct a comprehensive review of their advances portfolio and designate all branches which have more than 50 % of their total advances as NPAs as exclusive recovery branches and freeze further lending until the NPAs are salvaged.

In any financial institution, NPAs are inevitable in the loan portfolio. But efforts should be made to maintain a reasonable level of NPAs. Keeping in mind the RBI plan to introduce the concept of One quarter for identification of NPAs by 2004, it is a high time to go in for recovery drive on a war-footing. While doing so, prevention of NPAs should not be forgotten. These are the major challenges before banks which have gone in for VRS. But sincerity and hard work along with professional approach on the part of bank management may help in the fulfillment of challenges. Towards this end, banks have to go long way.

CHAPTER SIX FINDINGS

Findings
(1) Factor Contributing to NPAs (2) Social costs of NPAs (3) Moral Hazard and adverse Selection (4) RBI study on NPAs (5) Lacuna in the legal system (6) Problem of co-operative banks. The Gross NPA of the Scheduled commercial banks stood at Rs.70904 crores at the end March 2002, as compared to Rs. 63741crores in the corresponding period of the last fiscal.Net NPAs on the same date amounted to Rs.35546 crores compared to Rs.32461 crores as on March 2001.State run banks accounted for the Maximum share of NPAs among the banking entities. In absolute term, both gross and net NPAs are up. During the last year NPAs of both the Old and New private sector banks recorded a considerable decline as % of total assets as well as advances reflecting the impact of increase in standard assets. From the analysis of primary data as well as with the findings from secondary data following causes of NPA are found out. (1) Diversion of funds for expansion/modernization/ setting up new projects/helping or promoting sister concerns. (2) Time/ cost over run while implementing the project. (3) External Factor like Raw Material shortage, raw material /input price escalation, power shortages, industrial recession ,excess capacity and natural calamities. (4) Business failures like product failing to capture market inefficient management strike, wrong technology, product obsolescence etc.,

(5) Failure non-payment/ over dues in other countries, recession in other countries. (6) Willful Default, siphoning of funds, fraud, misappropriation etc., (7) Deficiencies on the part of the banks such as negligence in credit appraisal, monitoring ad follow up delay in release of limits etc (8) High credit deposit ratio. (9) Poor cash management (10) Poor deposit mix (11) Low productivity (12) Huge house keeping arrears and in reconciliation of inter branch entries. (13) Slackness in the control of controllable expenses. It is observed that internal factors outweighed the external factor in contributing to NPAs. It covers a particular section of industries such as from Steel and Related unit line Ferro Alloys, Manmade Textile, Real Estate/Civil and Project related construction, pharmaceuticals, leather goods export, garments export etc. It may be significant to note that during the last about 2 years, certain industries notably Iron & Steel Real Estate related, Textiles and Exports have been facing problems like demand recession. It can be said that overexposure to a particular sector which when worst hitted can most significantly increase the NPAs of the banks.

(a) Social Costs of NPAs In 1990-91, Central Government has written off agricultural and rural development loans amounting to Rs.15000 crore, During 1993-99 an amount of Rs. 20,000 crores has been infused into 19 public sector banks as recapitalization funds. They will require an additional loan of 10,000 crore over next 5 years. This does not include three weak banks- Indian Bank, UCO Bank and United Bank of India. Verma Committee has suggested infusion of Rs. 5000 crore for 3 weak banks, However, the Union Government has yet to release any funds. The social cost of NPAs so far is Rs.40,000 crore. It is not known yet what would be the financial claim of the distress zone banks in the future. The government is utilizing the hard earned money of the taxpayers. Their money could instead be used for developmental reforms. But fiscal Deficit and Conters appetite for funds has made the government to issue GOI securities, which act as a buffer. b) Moral Hazard and Adverse Selection

While the proportion of NPAs to total advances had declined there has not been any corresponding reduction in the volume although banks have made vigorous efforts towards recovery and up gradation of loans. This implies that the banks are incurring NPAs from a part of their incremental lending. Banks in their anxiety to earn high returns may charge high interest rates on loans which encourages risk taking behavior of the borrowers. If the borrowers are unable to repay, it result in an increase in non-performing assets. The assets and other risk banks take are not monitored in the absence of market discipline. In non financial firms creditors monitor and constrain borrowings. c) RBI study on NPAs Reserve Bank Of India had conducted a study to ascertain the contributory factors for high level of NPAs in Banks covering 800 top NPA accounts in 17 banks. The study revealed that the following major factors are contributing to the loans becoming NPAs.

(i)

Diversification of funds for expansion, diversification, modernization, undertaking new projects and for recessionary trends, and failure to tap funds in a capital market.

(ii) (iii)

Business failures (product marketing etc.), inefficient management strained labour relations, inappropriate technology/technical problems, product, obsolesces etc. Recession, inputs/power storage, price escalation, accident, natural calamity etc. besides externalization problems in other countries leading to non-payment of overdues.

(iv) (v) (vi) (vii) (viii)

Time/Cost overrun during project implementation stage. Government policies like charges in excise duties, pollution control order etc. Willful default, siphoning off of funds, frauds/ misappropriation and promoters, directors disputes. Deficiency on the banks like delay in release of limits and delay in release of payments/subsidies by government. Bank, FIs form Corporate Debt Revamp teams. Public sector banks and financial institutions have jointly setup two Corporate Debt Restructuring (CDR) teams to ensure a timely and Transparent mechanism for restructuring debt of potentially sick corporates. This restructuring is outside the purview of BIFR and DRT and other legal proceedings. Further, it is applicable only to Multiple Banking Accounts, syndicates consortium Accounts with an outstanding of over 20 crores. The core group comprises chief of institutions banks and RBI representative, while the otherteam , the CDR empowered group will comprise middle ring brass of Bank and FIs. While the empowered group will screen the restructuring proposals the core group will take a final view on them. The chairman of core group is IDBI chairman and CMD VOra. The others are ICICI MD and CEO Kamath, SBI chairman Jnaki Ballabh,CMD K.V. Krishnamurthy. The core group held first meeting on 21/12/01.

The CDR empowered group will decide on individual cases of CDR. IDBI executive director T.M. Nagarjan was elected chairman of group. Banks and FIs are looking forward for effective working of CDR. This may help many of the assets from turning into non-performing assets. The major lender can now force the smaller lender to take decision. (d) LACUNA IN THE LEGAL SYSTEM By interviewing the resopondents it was found that they all are highly dissatisfied with the prevailing legal system and the case settlement procedures. According to them, there is no dearth of recovery mechanism for NPAs. The irony however is that the existing loopholes in the legal system encourages the borrower to take undue advantage of them. There is no structure to penalize the willful defaulters in current legal system. 1. It is reserved that whenever there is a problem about NPAs banks point out to the lacuna in the legal system. On the contrary the lacuna in the legal system is that the banks are not compelled to share the information. In common law parlance a contract is a privacy and therefore any information between the parties cannot be shared with others. This is the main plank of common law system which does not take into consideration the public duty. It is a structural default. If one wants to see public uty then one has to go either to the constitutional legal system or civil law structure. This default can be overcomed if the banks follow information sharing system. In a contract, the parties must be co-equal. If there is no co-equality, there is asymmetry of information. So there is a moral hazard that has to be reduced by legal structure. The point is that if a bank asks a corporation whether it has taken a loan from any other banks earlier and the corporate says no than this is a fraud. This can be recorded and there cabin be registration system of pooling information which is shared on demand. The loan agreement can have clause saying that if the borrower defaults on repayment the other banks can share the information.

2. Secondly, case of default that banks hesist to go to court because it takes at least seven years to settle the original case. Then these will be appeals and so on. Normally four years are taken up only for the first hearing. Moreover the banks give loans against equitable mortgage, banks cannot take possession without going to the court. If a bank want to take possession it has to go to court and wait for seven or eight years. Then the matter may go to the supreme court. 3. The other recourse is DRTs. But they are not fast for several reasons. There is an insufficient number of DRTs the litigants have to come form distant place and finally there is lack of expertise. The presiding officers at DRTs are ordinary principles of jurisprudence. Though they have power to design the procedures, they follow the ordinary a\civil procedure code as much as possible. 4. It is well known that the legislative authority is in the hands of RBI an finance ministry and their authority cannot be act an ministry s the owner of the banks. The private banks can certainly question the orders from the ministry. But the reality is different. 5. The financial laws regarding arbitrate law, hypothecation law and contract laws are not strong enough. Other legal system does not have one single code for security interest creation. Security interest creation means priority determination and realization either through the court or without the course. Under the transfer of Property Act, 1882 the security interests that exists are immovable security interests which were formed for feudal society. The same are used for commercial and banking purposes.

(6)

NPAs are the legacy of political interference and ministers inability to understand what a bank is. If a minister says there should be loan mela, let him do it with his own money, there is no problem. But bank is public money.

General people identify RBI as a regulator. But it has certain statutory rights and does not have regulation making power. In small matters the statutory rights are more powerful than regulatory power. (7) The banker explain that the onus of proof always lies on the part of the banks and they have to prove that they have granted the loan to the client on the other hand they firmly believe that the onus of proof should lie with the client. He should prove that he has not taken a loan or he has paid all the installation on time and with interest. (B) Problem of co-operative banks : We have identified the problem areas which are most typical of these bank, namely low capital base, inadequate loan appraisal systems and credit planning poor recovery performance, mounting overdue and NPAs and low levels of diversification in business operations. The low capital base in reflective of the fact that around 47 % of the State Cooperative banks have capital adequacy of below 8 %. Poor recovery is again a big concern, especially at the rural level where in many cases there is nothing worthwhile to recover from the poor farmers. Even regulation causes many problems on the state and the RBI and even multiple regulation, with the centre coming in.

6.2 Respected Sir/Madam,

QUESTIONNAIRE

I request you to fill the following questionnaire. The information provided by you will be kept strictly confidential and will be used for academic purpose only.

A. How much time do you take to sanction any kind of advance after
receiving the application? (a) Less than 15 days (b) 15-30 days (b) 1-3 Months (d) 3-6 Months (f) More than 6 months

B.

Keeping in mind the recovery, do you evaluate proposals over before sanctioning the loans? Yes No

C. If yes, in what way?

D. Is it necessary to evaluate the applications more critically?

Yes No If yes what is your suggestion?

E. F.

Rank the following factors (on a scale of 1 to 9) in order of while importance while sanctioning loans. Companys current performance cash flows Documents Market condition. Past Performance of the company Previous Repayments Primary security /collateral Reference Statutory requirements Any other. Please specify

G. How fast do you recover a loan after maturity? ( On an average per year)
(a) On time (b) within 15 days (c) 15-30 days (d) More than 30 days

H. What are the problems you face while recovering the loans/ advances?
Bureaucratic/systematic Inability to pay Legal constraints Natural calamities Political or other influence Unwillingness to pay Any other. Please specify

I.
(a) (e)

On the loans sanctioned, what the average annual percentage of defaults? Less than 5% (b) 5%-10% (c) 10%-20% (d) 20%-30% 30%-50% (f) More than 50%

J.

If there is a default, tick the following corrective measures?

Assistance Awareness Compromise/settlement Intervention Legal Action Persuasion

K. Is the system synchronized as to who evaluates the application, who

sanction the loan, and who recovers the loans and who recovers the money? Yes No. Are you satisfied with your recovery procedure? Yes No.

L.

M. If no, suggest ways to improve the recovery system.

Name : Designation: Bank/ Institution: Date: